Attached files

file filename
EX-32.2 - EXHIBIT 32.2 - Sila Realty Trust, Inc.a2018q110qexhibit322reitii.htm
EX-32.1 - EXHIBIT 32.1 - Sila Realty Trust, Inc.a2018q110qexhibit321reitii.htm
EX-31.2 - EXHIBIT 31.2 - Sila Realty Trust, Inc.a2018q110qexhibit312reitii.htm
EX-31.1 - EXHIBIT 31.1 - Sila Realty Trust, Inc.a2018q110qexhibit311reitii.htm
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________________________________
FORM 10-Q
___________________________________________
(Mark One)
S
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2018
OR 
£
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Commission File Number: 000-55435
cvmcriilogob05.jpg
CARTER VALIDUS MISSION CRITICAL REIT II, INC.
(Exact name of registrant as specified in its charter)
Maryland
 
46-1854011
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
4890 West Kennedy Blvd., Suite 650
Tampa, FL 33609
 
(813) 287-0101
(Address of Principal Executive Offices; Zip Code)
 
(Registrant’s Telephone Number)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
None
 
None
Securities registered pursuant to Section 12(g) of the Act:
Common stock, par value $0.01 per share
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
  
Accelerated filer
 
Non-accelerated filer
 
☒ (Do not check if a smaller reporting company)
  
Smaller reporting company
 
 
 
 
 
Emerging growth company
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards pursuant to Section 7(a)(2)(B) of the Securities Act. ☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒
As of May 4, 2018, there were approximately 82,682,000 shares of Class A common stock, 9,010,000 shares of Class I common stock, 37,625,000 shares of Class T common stock and 713,000 shares of Class T2 common stock of Carter Validus Mission Critical REIT II, Inc. outstanding.
 



CARTER VALIDUS MISSION CRITICAL REIT II, INC.
(A Maryland Corporation)
TABLE OF CONTENTS
 
 
Page
PART I.
Item 1.
 
 
 
 
Item 2.
Item 3.
Item 4.
PART II.
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
 




PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements.
CARTER VALIDUS MISSION CRITICAL REIT II, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
 
(Unaudited)
March 31, 2018
 
December 31, 2017
ASSETS
Real estate:
 
 
 
Land
$
226,980

 
$
223,277

Buildings and improvements, less accumulated depreciation of $54,926 and $45,789, respectively
1,284,881

 
1,250,794

Construction in progress
35,046

 
31,334

Total real estate, net
1,546,907

 
1,505,405

Cash and cash equivalents
76,734

 
74,803

Acquired intangible assets, less accumulated amortization of $26,856 and $22,162, respectively
151,794

 
150,554

Other assets, net
56,648

 
47,182

Total assets
$
1,832,083

 
$
1,777,944

LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
 
 
 
Notes payable, net of deferred financing costs of $4,165 and $4,393, respectively
$
463,885

 
$
463,742

Credit facility, net of deferred financing costs of $526 and $601, respectively
249,474

 
219,399

Accounts payable due to affiliates
14,882

 
15,249

Accounts payable and other liabilities
28,063

 
27,709

Intangible lease liabilities, less accumulated amortization of $3,981 and $2,760, respectively
60,073

 
61,294

Total liabilities
816,377

 
787,393

Stockholders’ equity:
 
 
 
Preferred stock, $0.01 par value per share, 100,000,000 shares authorized; none issued and outstanding

 

Common stock, $0.01 par value per share, 500,000,000 shares authorized; 131,184,182 and 126,559,834 shares issued, respectively; 128,021,413 and 124,327,777 shares outstanding, respectively
1,280

 
1,243

Additional paid-in capital
1,117,391

 
1,084,905

Accumulated distributions in excess of earnings
(111,252
)
 
(99,309
)
Accumulated other comprehensive income
8,285

 
3,710

Total stockholders’ equity
1,015,704

 
990,549

Noncontrolling interests
2

 
2

Total equity
1,015,706

 
990,551

Total liabilities and stockholders’ equity
$
1,832,083

 
$
1,777,944

The accompanying notes are an integral part of these condensed consolidated financial statements.

3


CARTER VALIDUS MISSION CRITICAL REIT II, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands, except share data and per share amounts)
(Unaudited)
 
Three Months Ended
March 31,
 
2018
 
2017
Revenue:
 
 
 
Rental and parking revenue
$
35,695

 
$
19,682

Tenant reimbursement revenue
5,600

 
4,340

Total revenue
41,295

 
24,022

Expenses:
 
 
 
Rental and parking expenses
8,290

 
4,926

General and administrative expenses
943

 
925

Asset management fees
3,099

 
2,006

Depreciation and amortization
13,717

 
7,610

Total expenses
26,049

 
15,467

Income from operations
15,246

 
8,555

Interest expense, net
7,742

 
3,764

Net income attributable to common stockholders
$
7,504

 
$
4,791

Other comprehensive income:
 
 
 
Unrealized income on interest rate swaps, net
$
4,575

 
$
768

Other comprehensive income attributable to common stockholders
4,575

 
768

Comprehensive income attributable to common stockholders
$
12,079

 
$
5,559

Weighted average number of common shares outstanding:
 
 
 
Basic
126,384,346

 
86,482,927

Diluted
126,401,940

 
86,499,543

Net income per common share attributable to common stockholders:
 
 
 
Basic
$
0.06

 
$
0.06

Diluted
$
0.06

 
$
0.06

Distributions declared per common share
$
0.15

 
$
0.16

The accompanying notes are an integral part of these condensed consolidated financial statements.

4


CARTER VALIDUS MISSION CRITICAL REIT II, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(in thousands, except for share data)
(Unaudited)
 
Common Stock
 
 
 
 
 
 
 
 
 
 
 
 
 
No. of
Shares
 
Par
Value
 
Additional
Paid-in
Capital
 
Accumulated Distributions in Excess of Earnings
 
Accumulated Other Comprehensive Income
 
Total
Stockholders’
Equity
 
Noncontrolling
Interests
 
Total
Equity
Balance, December 31, 2017
124,327,777

 
$
1,243

 
$
1,084,905

 
$
(99,309
)
 
$
3,710

 
$
990,549

 
$
2

 
$
990,551

Issuance of common stock
3,530,242

 
35

 
34,061

 

 

 
34,096

 

 
34,096

Issuance of common stock under the distribution reinvestment plan
1,080,606

 
11

 
9,909

 

 

 
9,920

 

 
9,920

Vesting of restricted common stock

 

 
22

 

 

 
22

 

 
22

Commissions on sale of common stock and related dealer manager fees

 

 
(1,689
)
 

 

 
(1,689
)
 

 
(1,689
)
Distribution and servicing fees

 

 
(374
)
 

 

 
(374
)
 

 
(374
)
Other offering costs

 

 
(1,032
)
 

 

 
(1,032
)
 

 
(1,032
)
Repurchase of common stock
(917,212
)
 
(9
)
 
(8,411
)
 

 

 
(8,420
)
 

 
(8,420
)
Distributions declared to common stockholders

 

 

 
(19,447
)
 

 
(19,447
)
 

 
(19,447
)
Other comprehensive income

 

 

 

 
4,575

 
4,575

 

 
4,575

Net income

 

 

 
7,504

 

 
7,504

 

 
7,504

Balance, March 31, 2018
128,021,413

 
$
1,280

 
$
1,117,391

 
$
(111,252
)
 
$
8,285

 
$
1,015,704

 
$
2

 
$
1,015,706

The accompanying notes are an integral part of these condensed consolidated financial statements.

5


CARTER VALIDUS MISSION CRITICAL REIT II, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
 
Three Months Ended
March 31,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net income
$
7,504

 
$
4,791

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
13,717

 
7,610

Amortization of deferred financing costs
756

 
561

Amortization of above-market leases
134

 
9

Amortization of intangible lease liabilities
(1,221
)
 
(134
)
Straight-line rent
(3,311
)
 
(2,232
)
Stock-based compensation
22

 
17

Ineffectiveness of interest rate swaps
39

 
8

Changes in operating assets and liabilities:
 
 
 
Accounts payable and other liabilities
1,584

 
2,970

Accounts payable due to affiliates
50

 
199

Other assets
19

 
(1,030
)
Net cash provided by operating activities
19,293

 
12,769

Cash flows from investing activities:
 
 
 
Investment in real estate
(52,087
)
 
(156,875
)
Acquisition costs capitalized subsequent to acquisition

 
(44
)
Capital expenditures
(5,755
)
 
(8,108
)
Real estate deposits, net
(100
)
 
(3,330
)
Net cash used in investing activities
(57,942
)
 
(168,357
)
Cash flows from financing activities:
 
 
 
Proceeds from issuance of common stock
34,096

 
69,923

Proceeds from notes payable

 
25,000

Payments on notes payable
(85
)
 

Proceeds from credit facility
30,000

 
120,000

Payments on credit facility

 
(30,000
)
Payments of deferred financing costs
(65
)
 
(526
)
Repurchases of common stock
(8,420
)
 
(2,185
)
Offering costs on issuance of common stock
(3,672
)
 
(6,661
)
Distributions to stockholders
(9,333
)
 
(5,977
)
Net cash provided by financing activities
42,521

 
169,574

Net change in cash, cash equivalents and restricted cash
3,872

 
13,986

Cash, cash equivalents and restricted cash - Beginning of period
85,747

 
56,909

Cash, cash equivalents and restricted cash - End of period
$
89,619

 
$
70,895

Supplemental cash flow disclosure:
 
 
 
Interest paid, net of interest capitalized of $474 and $365, respectively
$
7,265

 
$
3,225

Supplemental disclosure of non-cash transactions:
 
 
 
Common stock issued through distribution reinvestment plan
$
9,920

 
$
7,001

Distribution and servicing fees accrued during the period
$

 
$
1,333

Liabilities assumed at acquisition
$

 
$
815

Accrued capital expenditures
$
1,268

 
$

The accompanying notes are an integral part of these condensed consolidated financial statements.

6


CARTER VALIDUS MISSION CRITICAL REIT II, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
March 31, 2018
Note 1—Organization and Business Operations
Carter Validus Mission Critical REIT II, Inc., or the Company, is a Maryland corporation that was formed on January 11, 2013. The Company has elected to be taxed as a real estate investment trust, or a REIT, under the Internal Revenue Code of 1986, as amended, for federal income tax purposes. Substantially all of the Company’s business is conducted through Carter Validus Operating Partnership II, LP, a Delaware limited partnership, or the Operating Partnership, formed on January 10, 2013. The Company is the sole general partner of the Operating Partnership and Carter Validus Advisors II, LLC, or the Advisor, is the special limited partner of the Operating Partnership.
The Company commenced the initial public offering of $2,350,000,000 in shares of common stock, or the Initial Offering, consisting of up to $2,250,000,000 in shares in its primary offering and up to $100,000,000 in shares of common stock to be made available pursuant to the Company’s distribution reinvestment plan, or the DRIP. The Company ceased offering shares of common stock pursuant to the Initial Offering on November 24, 2017. At the completion of the Initial Offering, the Company had accepted investors' subscriptions for and issued approximately 125,095,000 shares of Class A, Class I and Class T common stock, including shares of common stock issued pursuant to the DRIP, resulting in gross proceeds of $1,223,803,000.
During the year ended December 31, 2017, the Company filed a Registration Statement on Form S-3 to register 10,893,246 shares of common stock under the DRIP for a proposed maximum offering price of $100,000,000 in shares of common stock, or the DRIP Offering. On November 27, 2017, the Company commenced its follow-on offering of up to $1,000,000,000 in shares of common stock, or the Offering, and collectively with the Initial Offering and the DRIP Offering, the Offerings. The Company will continue to issue shares of common stock under the DRIP Offering until such time as the Company sells all of the shares registered for sale under the DRIP Offering, unless the Company files a new registration statement with the U.S. Securities and Exchange Commission, or the SEC, or the DRIP Offering is terminated by the Company's board of directors.
As of March 14, 2018, the Company ceased offering shares of Class T common stock in the Offering. Commencing March 15, 2018, the Company is offering, in any combination with a dollar value up to the maximum offering amount, Class A shares of common stock at a price of $10.200 per share, Class I shares of common stock at a price of $9.273 per share, and Class T2 shares of common stock at a price of $9.714 per share. The offering prices are based on the most recent estimated per share net asset value of each of the Class A common stock, Class I common stock and Class T common stock, and any applicable per share upfront selling commissions and dealer manager fees.
As of March 31, 2018, the Company had issued approximately 131,171,000 shares of Class A, Class I, Class T and Class T2 common stock in the Offerings, resulting in receipt of gross proceeds of approximately $1,281,654,000, before share repurchases of $29,004,000, selling commissions and dealer manager fees of approximately $93,587,000 and other offering costs of approximately $24,389,000.
Substantially all of the Company’s business is managed by the Advisor. Carter Validus Real Estate Management Services II, LLC, or the Property Manager, an affiliate of the Advisor, serves as the Company’s property manager. The Advisor and the Property Manager have received, and will continue to receive, fees for services related to the acquisition and operational stages. The Advisor will also be eligible to receive fees during the liquidation stage. SC Distributors, LLC, an affiliate of the Advisor, or the Dealer Manager, serves as the dealer manager of the Offering. The Dealer Manager has received, and will continue to receive, fees for services related to the Initial Offering and the Offering.
The Company was formed to invest primarily in quality income-producing commercial real estate, with a focus on data centers and healthcare properties, preferably with long-term net leases to creditworthy tenants, as well as to make other real estate-related investments that relate to such property types, which may include equity or debt interests, including securities, in other real estate entities. The Company also may originate or invest in real estate-related notes receivable. As of March 31, 2018, the Company owned 54 real estate investments, consisting of 72 properties.
Except as the context otherwise requires, “we,” “our,” “us,” and the “Company” refer to Carter Validus Mission Critical REIT II, Inc., the Operating Partnership and all wholly-owned subsidiaries.

7


Note 2—Summary of Significant Accounting Policies
The summary of significant accounting policies presented below is designed to assist in understanding the Company’s condensed consolidated financial statements. Such condensed consolidated financial statements and the accompanying notes thereto are the representation of management. These accounting policies conform to accounting principles generally accepted in the United States of America, or GAAP, for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, all adjustments, consisting of a normal and recurring nature considered for a fair presentation, have been included. Operating results for the three months ended March 31, 2018, are not necessarily indicative of the results that may be expected for the year ending December 31, 2018.
The condensed consolidated balance sheet at December 31, 2017, has been derived from the audited consolidated financial statements at that date but does not include all the information and notes required by GAAP for complete financial statements. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the Company's audited consolidated financial statements as of and for the year ended December 31, 2017, and related notes thereto set forth in the Company's Annual Report on Form 10-K, filed with the SEC on March 21, 2018.
Principles of Consolidation and Basis of Presentation
The accompanying condensed consolidated financial statements include the accounts of the Company, the Operating Partnership, and all wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of the condensed consolidated financial statements and accompanying notes in conformity with GAAP requires the Company to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. These estimates are made and evaluated on an ongoing basis using information that is currently available as well as various other assumptions believed to be reasonable under the circumstances. Actual results could differ from those estimates.
Restricted Cash
Restricted cash consists of restricted cash held in escrow and restricted bank deposits. Restricted cash held in escrow includes cash held in escrow accounts for capital improvements for certain properties as well as cash held by lenders in escrow accounts for tenant and capital improvements, repairs and maintenance and other lender reserves for certain properties, in accordance with the respective lender’s loan agreement. Restricted cash held in escrow is reported in other assets, net in the accompanying condensed consolidated balance sheets. Restricted bank deposits consist of tenant receipts for certain properties which are required to be deposited into lender-controlled accounts in accordance with the respective lender's loan agreement. Restricted bank deposits are reported in other assets, net in the accompanying condensed consolidated balance sheets. See Note 6—"Other Assets, Net".
On April 1, 2017, the Company adopted Accounting Standards Update, or ASU, 2016-18, Restricted Cash, or ASU 2016-18. ASU 2016-18 requires that a statement of cash flows explain the change during a reporting period in the total of cash, cash equivalents and restricted cash. This ASU states that transfers between cash, cash equivalents and restricted cash are not part of the Company’s operating, investing and financing activities. Therefore, restricted cash should be included with cash and cash equivalents when reconciling the beginning of period and end of period total amounts shown on the statement of cash flows. As required, the Company retrospectively applied the guidance in ASU 2016-18 to the prior periods presented, which resulted in a decrease of $2,000 in net cash provided by operating activities, an increase of $193,000 in net cash used in investing activities and an increase of $213,000 in net cash provided by financing activities for the three months ended March 31, 2017 on the condensed consolidated statements of cash flows.

8


The following table presents a reconciliation of the beginning of period and end of period cash, cash equivalents and restricted cash reported within the condensed consolidated balance sheets to the totals shown in the condensed consolidated statements of cash flows:
 
 
Three Months Ended
March 31,
Beginning of period:
 
2018
 
2017
Cash and cash equivalents
 
74,803

 
50,446

Restricted cash (1)
 
10,944

 
6,463

Cash, cash equivalents and restricted cash
 
$
85,747

 
$
56,909

 
 
 
 
 
End of period:
 
 
 
 
Cash and cash equivalents
 
76,734

 
64,414

Restricted cash (1)
 
12,885

 
6,481

Cash, cash equivalents and restricted cash
 
$
89,619

 
$
70,895

 
(1)
Included in Other assets, net in the accompanying condensed consolidated balance sheets.
Concentration of Credit Risk and Significant Leases
As of March 31, 2018, the Company had cash on deposit, including restricted cash, in certain financial institutions that had deposits in excess of current federally insured levels; however, the Company has not experienced any losses in such accounts. The Company limits its cash investments to financial institutions with high credit standing; therefore, the Company believes it is not exposed to any significant credit risk on its cash deposits. To date, the Company has experienced no loss or lack of access to cash in its accounts.
As of March 31, 2018, the Company owned real estate investments in 38 MSAs, two of which accounted for 10.0% or more of contractual rental revenue. Real estate investments located in the Atlanta-Sandy Springs-Roswell, Georgia MSA and the Oklahoma City, Oklahoma MSA accounted for 16.1% and 10.1%, respectively, of contractual rental revenue for the three months ended March 31, 2018.
As of March 31, 2018, the Company had no exposure to tenant concentration that accounted for 10.0% or more of contractual rental revenue for the three months ended March 31, 2018.
Share Repurchase Program
The Company’s share repurchase program allows for repurchases of shares of the Company’s common stock when certain criteria are met. The share repurchase program provides that all repurchases during any calendar year, including those redeemable upon death or a Qualifying Disability of a stockholder, are limited to those that can be funded with equivalent proceeds raised from the DRIP Offering during the prior calendar year and other operating funds, if any, as the board of directors, in its sole discretion, may reserve for this purpose.
Repurchases of shares of the Company’s common stock are at the sole discretion of the Company’s board of directors. The Company will limit the number of shares repurchased pursuant to the share repurchase program as follows: during any calendar year, the Company will not repurchase in excess of 5.0% of the number of shares of common stock outstanding on December 31st of the previous calendar year. In addition, the Company’s board of directors, in its sole discretion, may suspend (in whole or in part) the share repurchase program at any time, and may amend, reduce, terminate or otherwise change the share repurchase program upon 30 days' prior notice to the Company’s stockholders for any reason it deems appropriate.
During the three months ended March 31, 2018, the Company received valid repurchase requests related to 917,212 Class A shares and Class T shares of common stock (842,952 Class A shares and 74,260 Class T shares), all of which were redeemed in full for an aggregate purchase price of approximately $8,420,000 (an average of $9.18 per share). During the three months ended March 31, 2017, the Company received valid repurchase requests related to 240,902 Class A shares of common stock, all of which were redeemed in full for an aggregate purchase price of approximately $2,185,000 (an average of $9.07 per share).
Earnings Per Share
The Company calculates basic earnings per share by dividing net income attributable to common stockholders for the period by the weighted average shares of its common stock outstanding for that period. Diluted earnings per share are computed based on the weighted average number of shares outstanding and all potentially dilutive securities. Shares of non-vested restricted common stock give rise to potentially dilutive shares of common stock. For the three months ended March 31,

9


2018 and 2017, diluted earnings per share reflected the effect of 18,000 and 17,000 shares, respectively, of non-vested shares of restricted common stock that were outstanding as of such period.
Recently Issued Accounting Pronouncements
On May 28, 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, or ASU 2014-09. The pronouncement was issued to clarify the principles for recognizing revenue and to develop a common revenue standard and disclosure requirements. The pronouncement is effective for reporting periods beginning after December 15, 2017. Upon adoption of ASU 2016-02 in 2019, as discussed below, the Company may be required to classify its tenant recoveries into lease and nonlease components, whereby the nonlease components would be subject to ASU 2014-09, pending the resolution of the proposed amendment issued by the FASB in January 2018. The Company adopted the provisions of ASU 2014-09 effective January 1, 2018, using the modified retrospective approach. The Company's rental revenue consists of (i) contractual revenues from leases recognized on a straight-line basis over the term of the respective lease; (ii) parking revenue; and (iii) the reimbursements of the tenants' share of real estate taxes, insurance and other operating expresses. Rental property revenue is accounted in accordance with Accounting Standards Codification (ASC) 840, Leases. The Company evaluated the revenue recognition for its contracts within this scope under existing accounting standards and under ASU 2014-09 and concluded that there was no changes to the condensed consolidated financial statements as a result of adoption.
On February 23, 2017, the FASB issued ASU 2017-05, Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets, or ASU 2017-05. ASU 2017-05 clarifies the scope of asset derecognition guidance and accounting for partial sales of nonfinancial assets. Partial sales of non-financial assets are common in the real estate industry and include transactions in which the seller retains an equity interest in the entity that owns the assets or has an equity interest in the buyer. ASU 2017-05 provides guidance on how entities should recognize sales, including partial sales, of non-financial assets (and in-substance non-financial assets) to non-customers. ASU 2017-05 requires the seller to recognize a full gain or loss in a partial sale of non-financial assets, to the extent control is not retained. Any noncontrolling interest retained by the seller would, accordingly, be measured at fair value. ASU 2017-05 was effective for fiscal years beginning after December 15, 2017, including interim reporting periods within those fiscal years. The Company adopted the ASU 2017-05 effective January 1, 2018. The Company has not disposed any real estate properties, therefore, the adoption of ASU 2017-05 has no impact on the Company's condensed consolidated financial statements.
On February 25, 2016, the FASB issued ASU 2016-02, Leases, or ASU 2016-02. ASU 2016-02 establishes the principles to increase the transparency about the assets and liabilities arising from leases. ASU 2016-02 results in a more faithful representation of the rights and obligations arising from leases by requiring lessees to recognize the lease assets and lease liabilities that arise from leases in the statement of financial position and to disclose qualitative and quantitative information about lease transactions and aligns lessor accounting and sale leaseback transactions guidance more closely to comparable guidance in Topic 606, Revenue from Contracts with Customers, and Topic 610, Other Income. Gains and Losses from the Derecognition of Non-financial Assets. Under ASU 2016-02, a lessee is required to record a right of use asset and a lease liability for all leases with a term of greater than 12 months regardless of their classification. The Company is a lessee on a limited number of ground leases, which will result in the recognition of a right of use asset and lease liability upon the adoption of ASU 2016-02. Lessor accounting remains largely unchanged, apart from the narrower scope of initial direct costs that can be capitalized. The new standard will result in certain costs, such as legal costs related to lease negotiations, being expensed rather than capitalized. In addition, ASU 2016-02 requires lessors to identify the lease and non-lease components, such as the reimbursement of common area maintenance, contained within each lease. The non-lease components would have to be evaluated under the revenue recognition guidance of ASU 2014-09, Revenue from Contracts with Customers, or ASU 2014-09. Recoveries from tenants to be impacted by ASU 2014-09 will not be addressed until the Company's adoption of ASU 2016-02. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. In January 2018, the FASB proposed an amendment to ASU 2016-02 to simplify the guidance by allowing lessors to elect a practical expedient to allow lessors to not separate non-lease components from a lease, which would provide the Company with the option of not bifurcating certain common area maintenance recoveries as a non-lease component. The Company will evaluate the impact of this amendment to the ASU when it is final.
On June 16, 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses, or ASU 2016-13. ASU 2016-13 requires more timely recording of credit losses on loans and other financial instruments that are not accounted for at fair value through net income, including loans held for investment, held-to-maturity debt securities, trade and other receivables, net investment in leases and other such commitments. ASU 2016-13 requires that financial assets measured at amortized cost be presented at the net amount expected to be collected, through an allowance for credit losses that is deducted from the amortized cost basis. The amendments in ASU 2016-13 require the Company to measure all expected credit losses based upon historical experience, current conditions and reasonable and supportable forecasts that affect the collectability of the financial assets and eliminates the “incurred loss” methodology in current GAAP. ASU 2016-13 is effective for fiscal years, and interim periods within, beginning after December 15, 2019. Early adoption is permitted for fiscal years, and interim periods within, beginning after December 15, 2018. The Company is in the process of evaluating the impact ASU 2016-13 will have on the Company’s

10


condensed consolidated financial statements. The Company believes that certain financial statements' accounts will be impacted by the adoption of ASU 2016-13, including allowances for doubtful accounts with respect to accounts receivable and straight-line rents receivable. 
On August 28, 2017, the FASB issued ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities, or ASU 2017-12. The objectives of ASU 2017-12 are to (i) improve the transparency and understandability of information conveyed to financial statement users about an entity’s risk management activities by better aligning the entity’s financial reporting for hedging relationships with those risk management activities and (ii) reduce the complexity of and simplify the application of hedge accounting by preparers. ASU 2017-12 is effective for fiscal years beginning after December 15, 2018, and interim periods therein. Early adoption is permitted. The Company is in process of evaluating the impact that ASU 2017-12 will have on the Company’s condensed consolidated financial statements.
Note 3—Real Estate Investments
During the three months ended March 31, 2018, the Company purchased a portfolio of two real estate properties, which was determined to be an asset acquisition. Upon the acquisition of the real estate properties determined to be asset acquisitions, the Company allocated the purchase price of the real estate portfolio to acquired tangible assets, consisting of land and buildings and improvements, and acquired intangible assets, based on a relative fair value method allocating all accumulated costs.
The following table summarizes the consideration transferred for the properties acquired during the three months ended March 31, 2018:
Property Description
 
Date Acquired
 
Ownership Percentage
 
Purchase Price (amounts in thousands)
Rancho Cordova Data Center Portfolio
 
03/14/2018
 
100%
 
$
52,087

The following table summarizes management's allocation of the real estate portfolio acquisition during the three months ended March 31, 2018, (amounts in thousands):
 
 
Total
Land
 
$
3,703

Buildings and improvements
 
42,450

In-place leases
 
5,934

Total assets acquired
 
$
52,087

Acquisition fees and costs associated with transactions determined to be asset acquisitions are capitalized. The Company capitalized acquisition fees and costs of approximately $1,127,000 related to properties acquired during the three months ended March 31, 2018. The total amount of all acquisition fees and costs is limited to 6.0% of the contract purchase price of a property. The contract purchase price is the amount actually paid or allocated in respect of the purchase, development, construction or improvement of a property exclusive of acquisition fees and costs. For the three months ended March 31, 2018 and 2017, acquisition fees and costs did not exceed 6.0% of the contract purchase price of the Company's acquisitions during such periods.

11


Note 4—Acquired Intangible Assets, Net
Acquired intangible assets, net consisted of the following as of March 31, 2018 and December 31, 2017 (amounts in thousands, except weighted average life amounts):
 
March 31, 2018
 
December 31, 2017
In-place leases, net of accumulated amortization of $26,336 and $21,776, respectively (with a weighted average remaining life of 10.7 years and 11.0 years, respectively)
$
149,968

 
$
148,594

Above-market leases, net of accumulated amortization of $490 and $358, respectively (with a weighted average remaining life of 2.6 years and 2.8 years, respectively)
1,212

 
1,344

Ground lease interest, net of accumulated amortization of $30 and $28, respectively (with a weighted average remaining life of 65.6 years and 65.8 years, respectively)
614

 
616

 
$
151,794

 
$
150,554

The aggregate weighted average remaining life of the acquired intangible assets was 10.9 years and 11.2 years as of March 31, 2018 and December 31, 2017, respectively.
Amortization of the acquired intangible assets for the three months ended March 31, 2018 and 2017 was $4,694,000 and $2,358,000, respectively. Amortization of the above-market leases is recorded as an adjustment to rental and parking revenue, amortization of the in-place leases is included in depreciation and amortization, and amortization of the ground lease interest is included in rental and parking expenses in the accompanying condensed consolidated statements of comprehensive income.
Note 5—Intangible Lease Liabilities, Net
Intangible lease liabilities, net, consisted of the following as of March 31, 2018 and December 31, 2017 (amounts in thousands, except weighted average life amounts):
 
March 31, 2018
 
December 31, 2017
Below-market leases, net of accumulated amortization of $3,981 and $2,760, respectively (with a weighted average remaining life of 18.6 years and 18.7 years, respectively)
$
60,073

 
$
61,294


$
60,073

 
$
61,294

Amortization of below-market leases for the three months ended March 31, 2018 and 2017 was $1,221,000 and $134,000, respectively. Amortization of below-market leases is recorded as an adjustment to rental and parking revenue in the accompanying condensed consolidated statements of comprehensive income.
Note 6—Other Assets, Net
Other assets, net consisted of the following as of March 31, 2018 and December 31, 2017 (amounts in thousands):
 
March 31, 2018
 
December 31, 2017
Deferred financing costs, related to the revolver portion of the secured credit facility, net of accumulated amortization of $3,874 and $3,426, respectively
$
1,488

 
$
1,850

Real estate escrow deposits
200

 
100

Restricted cash
12,885

 
10,944

Tenant receivables
5,572

 
4,916

Straight-line rent receivable
22,632

 
19,321

Prepaid and other assets
5,423

 
6,117

Derivative assets
8,448

 
3,934

 
$
56,648

 
$
47,182


12


Note 7—Accounts Payable and Other Liabilities
Accounts payable and other liabilities, as of March 31, 2018 and December 31, 2017, consisted of the following (amounts in thousands):
 
March 31, 2018
 
December 31, 2017
Accounts payable and accrued expenses
$
10,836

 
$
13,220

Accrued interest expense
2,625

 
2,410

Accrued property taxes
2,579

 
1,532

Distributions payable to stockholders
6,760

 
6,566

Tenant deposits
696

 
682

Deferred rental income
4,567

 
3,277

Derivative liabilities

 
22

 
$
28,063

 
$
27,709

Note 8—Notes Payable and Secured Credit Facility
The Company's debt outstanding as of March 31, 2018 and December 31, 2017 consisted of the following (amounts in thousands):
 
 
 
 
 
March 31, 2018
 
December 31, 2017
Notes payable:
 
 
 
Fixed rate notes payable
$
220,414

 
$
220,436

Variable rate notes payable fixed through interest rate swaps
247,636

 
247,699

Total notes payable, principal amount outstanding
468,050

 
468,135

Unamortized deferred financing costs related to notes payable
(4,165
)
 
(4,393
)
Total notes payable, net of deferred financing costs
463,885

 
463,742

Secured credit facility:
 
 
 
Revolving line of credit
150,000

 
120,000

Term loan
100,000

 
100,000

Total secured credit facility, principal amount outstanding
250,000

 
220,000

Unamortized deferred financing costs related to the term loan secured credit facility
(526
)
 
(601
)
Total secured credit facility, net of deferred financing costs
249,474

 
219,399

Total debt outstanding
$
713,359

 
$
683,141

Significant debt activity for the three months ended March 31, 2018, excluding scheduled principal payments, includes:
During the three months ended March 31, 2018, the Company drew $30,000,000 on its secured credit facility related to a real estate portfolio acquisition.
During the three months ended March 31, 2018, the Company increased the borrowing base availability under the secured credit facility by $28,028,000 by adding two properties to the aggregate pool availability.
As of March 31, 2018, the Company had an aggregate pool availability under the secured credit facility of $427,371,000; however, the maximum commitment thereunder was $425,000,000. As of March 31, 2018, the aggregate outstanding principal balance was $250,000,000, and a total of $175,000,000 remained to be drawn on the secured credit facility.

13


The principal payments due on the notes payable and secured credit facility for the nine months ending December 31, 2018, and for each of the next four years ending December 31 and thereafter, are as follows (amounts in thousands):
Year
 
Total Amount
Nine months ending December 31, 2018 (1)
 
$
150,338

2019
 
101,971

2020
 
4,635

2021
 
155,118

2022
 
164,847

Thereafter
 
141,141

 
 
$
718,050

 
(1)
Of this amount, $150,000,000 relates to the revolving line of credit under the secured credit facility. As of March 31, 2018, the maturity date on the revolving line of credit was December 22, 2018, subject to the Company's right to two 12-month extension periods. On April 27, 2018, the Company extended the maturity date of the revolving line of credit under the secured credit facility to April 27, 2022, subject to the Company's right to a 12-month extension period. See Note 17—"Subsequent Events" for additional details.
Note 9—Related-Party Transactions and Arrangements
The Company reimburses the Advisor and its affiliates for organization and offering expenses it incurs on the Company’s behalf, but only to the extent the reimbursement would not cause the selling commissions, dealer manager fees, distribution and servicing fees and other organization and offering expenses to exceed 15.0% of the gross proceeds of the Company's Initial Offering or Offering, respectively. Organization and offering expenses (other than selling commissions, dealer manager fees and distribution and servicing fees) associated with the Company's Initial Offering, which terminated on November 24, 2017, were approximately 2.0% of the gross proceeds. The Company expects that organization and offering expenses (other than selling commissions, dealer manager fees and distribution and servicing fees) associated with the Company's Offering, which commenced on November 27, 2017, will be approximately 2.0% of the gross proceeds at the termination of the Offering. As of March 31, 2018, since inception, the Advisor and its affiliates incurred approximately $18,316,000 on the Company’s behalf in offering costs, the majority of which were incurred by the Dealer Manager. Of this amount, approximately $239,000 of other organization and offering costs remained accrued as of March 31, 2018. As of March 31, 2018, since inception, the Advisor paid approximately $495,000 to an affiliate of the Dealer Manager in other offering costs on the Company's behalf. Other organization expenses are expensed as incurred and offering costs are charged to stockholders’ equity as incurred.
The Company pays to the Advisor 2.0% of the contract purchase price of each property or asset acquired. For the three months ended March 31, 2018 and 2017, the Company incurred approximately $1,019,000 and $3,083,000, respectively, in acquisition fees to the Advisor or its affiliates. In addition, the Company reimburses the Advisor for acquisition expenses incurred in connection with the selection and acquisition of properties or real estate-related investments (including expenses relating to potential investments that the Company does not close), such as legal fees and expenses, costs of real estate due diligence, appraisals, non-refundable option payments on properties not acquired, travel and communications expenses, accounting fees and expenses and title insurance premiums, whether or not the property was acquired. The Company expects these expenses will be approximately 0.75% of the purchase price of each property or real estate-related investment.
The Company pays to the Advisor an asset management fee calculated on a monthly basis in an amount equal to 1/12th of 0.75% of gross assets (including amounts borrowed), which is payable monthly in arrears. For the three months ended March 31, 2018 and 2017, the Company incurred approximately $3,099,000 and $2,006,000, respectively, in asset management fees.
In connection with the rental, leasing, operation and management of the Company’s properties, the Company pays the Property Manager and its affiliates aggregate fees equal to 3.0% of gross revenues from the properties managed, or property management fees. The Company will reimburse the Property Manager and its affiliates for property-level expenses that any of them pay or incur on the Company’s behalf, including salaries, bonuses and benefits of persons employed by the Property Manager and its affiliates except for the salaries, bonuses and benefits of persons who also serve as one of its executive officers. The Property Manager and its affiliates may subcontract the performance of their duties to third parties and pay all or a portion of the property management fee to the third parties with whom they contract for these services. If the Company contracts directly with third parties for such services, it will pay them customary market fees and may pay the Property Manager an oversight fee equal to 1.0% of the gross revenues of the properties managed. In no event will the Company pay the Property Manager or any affiliate both a property management fee and an oversight fee with respect to any particular property.

14


The Company also will pay the Property Manager a separate fee for the one-time initial lease-up, leasing-up of newly constructed properties or re-leasing to existing tenants. For the three months ended March 31, 2018 and 2017, the Company incurred approximately $1,037,000 and $671,000, respectively, in property management fees to the Property Manager, which are recorded in rental and parking expenses in the accompanying condensed consolidated statements of comprehensive income. For the three months ended March 31, 2018 and 2017, the Company incurred $0 and $23,000, respectively, in leasing commissions to the Property Manager. Leasing commission fees are capitalized in other assets, net in the accompanying condensed consolidated balance sheets.
For acting as general contractor and/or construction manager to supervise or coordinate projects or to provide major repairs or rehabilitation on our properties, the Company may pay the Property Manager up to 5.0% of the cost of the projects, repairs and/or rehabilitation, as applicable, or construction management fees. For the three months ended March 31, 2018 and 2017, the Company incurred approximately $111,000 and $159,000, respectively, in construction management fees to the Property Manager. Construction management fees are capitalized in real estate, net in the accompanying condensed consolidated balance sheets.
The Company reimburses the Advisor for all operating expenses it paid or incurred in connection with the services provided to the Company, subject to certain limitations. Expenses in excess of the operating expenses in the four immediately preceding quarters that exceeds the greater of (a) 2.0% of average invested assets or (b) 25% of net income, subject to certain adjustments, will not be reimbursed unless the independent directors determine such excess expenses are justified. The Company will not reimburse the Advisor for personnel costs in connection with services for which the Advisor receives an acquisition fee or a disposition fee. For the three months ended March 31, 2018 and 2017, the Advisor allocated approximately $312,000 and $365,000, respectively, in operating expenses to the Company, which are recorded in general and administrative expenses in the accompanying condensed consolidated statements of comprehensive income.
On May 15, 2017, the Advisor employed Gael Ragone, who is the daughter of John E. Carter, the chairman of the Company's board of directors, as Vice President of Product Management of Carter Validus Advisors II, LLC. The Company directly reimburses the Advisor any amounts of Ms. Ragone's salary that are allocated to the Company. For the three months ended March 31, 2018, the Advisor allocated approximately $39,000, which is included in general and administrative expenses in the Company's condensed consolidated statements of comprehensive income.
The Company will pay its Advisor, or its affiliates, if it provides a substantial amount of services (as determined by a majority of the Company’s independent directors) in connection with the sale of properties, a disposition fee, equal to up to the lesser of 1.0% of the contract sales price and one-half of the total brokerage commission paid if a third party broker is also involved, without exceeding the lesser of 6.0% of the contract sales price or a reasonable, customary and competitive real estate commission. As of March 31, 2018, the Company has not incurred any disposition fees to the Advisor or its affiliates.
Upon the sale of the Company, the Advisor will receive 15% of the remaining net sale proceeds after return of capital contributions plus payment to investors of a 6.0% annual cumulative, non-compounded return on the capital contributed by investors, or the subordinated participation in net sale proceeds. As of March 31, 2018, the Company has not incurred any subordinated participation in net sale proceeds to the Advisor or its affiliates.
Upon the listing of the Company’s shares on a national securities exchange, the Advisor will receive 15.0% of the amount by which the sum of the Company’s adjusted market value plus distributions exceeds the sum of the aggregate capital contributed by investors plus an amount equal to a 6.0% annual cumulative, non-compounded return to investors, or the subordinated incentive listing fee. As of March 31, 2018, the Company has not incurred any subordinated incentive listing fees to the Advisor or its affiliates.
Upon termination or non-renewal of the advisory agreement, with or without cause, the Advisor will be entitled to receive subordinated termination fees from the Operating Partnership equal to 15% of the amount by which the sum of the Company’s adjusted market value plus distributions exceeds the sum of the aggregate capital contributed by investors plus an amount equal to an annual 6.0% cumulative, non-compounded return to investors. In addition, the Advisor may elect to defer its right to receive a subordinated termination fee upon termination until either shares of the Company’s common stock are listed and traded on a national securities exchange or another liquidity event occurs. As of March 31, 2018, the Company has not incurred any subordinated termination fees to the Advisor or its affiliates.
The Company pays the Dealer Manager selling commissions, dealer manager fees and distribution and servicing fees in connection with the purchase of shares of certain classes of common stock. All selling commissions are expected to be re-allowed to participating broker-dealers. The dealer manager fee may be partially re-allowed to participating broker-dealers. No selling commissions, dealer manager fees and distribution and servicing fees will be paid in connection with purchases of shares of any class made pursuant to the DRIP.

15


Class A Shares
The Company pays the Dealer Manager selling commissions of up to 7.0% of the gross offering proceeds per Class A share. In addition, the Company pays the Dealer Manager a dealer manager fee of up to 3.0% of gross offering proceeds from the sale of Class A shares.
Class I Shares
The Company does not pay selling commissions with respect to Class I shares. The Dealer Manager may receive up to 2.0% of the gross offering proceeds from the sale of Class I shares as a dealer manager fee, of which 1.0% will be funded by our Advisor without reimbursement from us. The 1.0% of the dealer manager fee paid from offering proceeds will be waived in the event an investor purchases Class I shares through a registered investment advisor that is not affiliated with a broker dealer.
Class T Shares
The Company paid the Dealer Manager selling commissions of up to 3% of the gross offering proceeds per Class T share. In addition, the Company paid the Dealer Manager a dealer manager fee up to 3% of gross offering proceeds from the sale of Class T shares. The Company ceased offering Class T shares in the Offering on March 14, 2018. Beginning on March 15, 2018, the Company offers Class T2 shares, as described below.
Class T2 Shares
The Company pays the Dealer Manager selling commissions of up to 3.0% of gross offering proceeds per Class T2 share. In addition, the Company pays the Dealer Manager a dealer manager fee of up to 2.5% of gross offering proceeds from the sale of Class T2 shares.
For the three months ended March 31, 2018 and 2017, the Company incurred approximately $1,689,000 and $4,945,000, respectively, for selling commissions and dealer manager fees in connection with the Offerings to the Dealer Manager.
The Company pays the Dealer Manager a distribution and servicing fee with respect to its Class T and T2 shares that are sold in the Company's Offerings.
The distribution and servicing fee is paid monthly in arrears. For the three months ended March 31, 2018, the Company incurred approximately $374,000 in distribution and servicing fees to the Dealer Manager, of which $348,000 related to the sale of Class T shares and $26,000 related to the sale of Class T2 shares. For the three months ended March 31, 2017, the Company incurred approximately $1,649,000 in distribution and servicing fees to the Dealer Manager, all of which related to the sale of Class T shares.
Accounts Payable Due to Affiliates
The following amounts were due to affiliates as of March 31, 2018 and December 31, 2017 (amounts in thousands):
Entity
 
Fee
 
March 31, 2018
 
December 31, 2017
Carter Validus Advisors II, LLC and its affiliates
 
Asset management fees
 
$
1,055

 
$
1,017

Carter Validus Real Estate Management Services II, LLC
 
Property management fees
 
497

 
463

Carter Validus Real Estate Management Services II, LLC
 
Construction management fees
 
18

 
39

Carter Validus Advisors II, LLC and its affiliates
 
General and administrative costs
 
160

 
182

Carter Validus Advisors II, LLC and its affiliates
 
Offering costs
 
239

 
167

SC Distributors, LLC
 
Distribution and servicing fees
 
12,908

 
13,376

Carter Validus Advisors II, LLC and its affiliates
 
Acquisition expenses and fees
 
5

 
5


 
 
 
$
14,882

 
$
15,249

Note 10—Segment Reporting
Management reviews the performance of individual properties and aggregates individual properties based on operating criteria into two reportable segments—commercial real estate investments in data centers and healthcare, and makes operating decisions based on these two reportable segments. The Company’s commercial real estate investments in data centers and healthcare are based on certain underwriting assumptions and operating criteria, which are different for data centers and healthcare. There were no intersegment sales or transfers during the three months ended March 31, 2018 and 2017.

16


The Company evaluates performance based on net operating income of the individual properties in each segment. Net operating income, a non-GAAP financial measure, is defined as total revenues, less rental and parking expenses, which excludes depreciation and amortization, general and administrative expenses, acquisition related expenses, asset management fees and interest expense, net. The Company believes that segment net operating income serves as a useful supplement to net income because it allows investors and management to measure unlevered property-level operating results and to compare operating results to the operating results of other real estate companies between periods on a consistent basis. Segment net operating income should not be considered as an alternative to net income determined in accordance with GAAP as an indicator of financial performance, and accordingly, the Company believes that in order to facilitate a clear understanding of the consolidated historical operating results, segment net operating income should be examined in conjunction with net income as presented in the accompanying condensed consolidated financial statements and data included elsewhere in this Quarterly Report on Form 10-Q.
Non-segment assets primarily consist of corporate assets, including cash and cash equivalents, real estate and escrow deposits, deferred financing costs attributable to the revolving line of credit portion of the Company's secured credit facility and other assets not attributable to individual properties.
Summary information for the reportable segments during the three months ended March 31, 2018 and 2017, is as follows (amounts in thousands):
 
Data Centers
 
Healthcare
 
Three Months Ended
March 31, 2018
Revenue:
 
 
 
 
 
Rental, parking and tenant reimbursement revenue
$
23,721

 
$
17,574

 
$
41,295

Expenses:
 
 
 
 
 
Rental and parking expenses
(5,937
)
 
(2,353
)
 
(8,290
)
Segment net operating income
$
17,784

 
$
15,221

 
33,005

 
 
 
 
 
 
Expenses:
 
 
 
 
 
General and administrative expenses
 
 
 
 
(943
)
Asset management fees
 
 
 
 
(3,099
)
Depreciation and amortization
 
 
 
 
(13,717
)
Income from operations
 
 
 
 
15,246

Interest expense, net
 
 
 
 
(7,742
)
Net income attributable to common stockholders
 
 
 
 
$
7,504

 
Data Centers
 
Healthcare
 
Three Months Ended
March 31, 2017
Revenue:
 
 
 
 
 
Rental and tenant reimbursement revenue
$
9,704

 
$
14,318

 
$
24,022

Expenses:
 
 
 
 
 
Rental expenses
(2,660
)
 
(2,266
)
 
(4,926
)
Segment net operating income
$
7,044

 
$
12,052

 
19,096


 
 
 
 
 
Expenses:
 
 
 
 
 
General and administrative expenses
 
 
 
 
(925
)
Asset management fees
 
 
 
 
(2,006
)
Depreciation and amortization
 
 
 
 
(7,610
)
Income from operations
 
 
 
 
8,555

Interest expense, net
 
 
 
 
(3,764
)
Net income attributable to common stockholders
 
 
 
 
$
4,791


17


Assets by each reportable segment as of March 31, 2018 and December 31, 2017 are as follows (amounts in thousands):
 
March 31, 2018
 
December 31, 2017
Assets by segment:
 
 
 
Data centers
$
953,272

 
$
909,477

Healthcare
807,818

 
813,742

All other
70,993

 
54,725

Total assets
$
1,832,083

 
$
1,777,944

Capital additions and acquisitions by reportable segments for the three months ended March 31, 2018 and 2017 are as follows (amounts in thousands):
 
Three Months Ended
March 31,
 
2018
 
2017
Capital additions and acquisitions by segment:
 
 
 
Data centers
$
52,213

 
$
75,088

Healthcare
5,629

 
89,939

Total capital additions and acquisitions
$
57,842

 
$
165,027

Note 11—Future Minimum Rent
Rental Income
The Company’s real estate assets are leased to tenants under operating leases with varying terms. Typically, the leases have provisions to extend the terms of the lease agreements. The Company retains substantially all of the risks and benefits of ownership of the real estate assets leased to tenants.
The future minimum rent to be received from the Company’s investment in real estate assets under non-cancelable operating leases, including optional renewal periods for which exercise is reasonably assured, for the nine months ending December 31, 2018 and for each of the next four years ending December 31 and thereafter, are as follows (amounts in thousands):
Year
 
Amount
Nine months ending December 31, 2018
 
$
95,993

2019
 
129,861

2020
 
129,352

2021
 
131,373

2022
 
126,697

Thereafter
 
1,004,305

 
 
$
1,617,581


18


Rental Expense
The Company has ground lease obligations that generally require fixed annual rental payments and may also include escalation clauses and renewal options.
The future minimum rent obligations under non-cancelable ground leases for the nine months ending December 31, 2018 and for each of the next four years ending December 31 and thereafter, are as follows (amounts in thousands):
Year
 
Amount
Nine months ending December 31, 2018
 
$
99

2019
 
132

2020
 
132

2021
 
132

2022
 
132

Thereafter
 
3,142

 
 
$
3,769

Note 12—Fair Value
Notes payable—Fixed Rate—The estimated fair value of notes payablefixed rate measured using observable inputs from similar liabilities (Level 2) was approximately $212,467,000 and $211,011,000 as of March 31, 2018 and December 31, 2017, respectively, as compared to the outstanding principal of $220,414,000 and $220,436,000 as of March 31, 2018 and December 31, 2017, respectively. The estimated fair value of notes payablevariable rate fixed through interest rate swap agreements (Level 2) was approximately $240,768,000 and $243,812,000 as of March 31, 2018 and December 31, 2017, respectively, as compared to the outstanding principal of $247,636,000 and $247,699,000 as of March 31, 2018 and December 31, 2017, respectively.
Secured credit facility—The outstanding principal of the secured credit facility—variable was $150,000,000 and $120,000,000, which approximated its fair value as of March 31, 2018 and December 31, 2017, respectively. The fair value of the Company's variable rate secured credit facility is estimated based on the interest rates currently offered to the Company by financial institutions. The estimated fair value of the secured credit facility—variable rate fixed through interest rate swap agreements (Level 2) was approximately $97,896,000 and $98,593,000 as of March 31, 2018 and December 31, 2017, respectively, as compared to the outstanding principal of $100,000,000 as of March 31, 2018 and December 31, 2017.
Derivative instruments—Considerable judgment is necessary to develop estimated fair values of financial instruments. Accordingly, the estimates presented herein are not necessarily indicative of the amount the Company could realize, or be liable for, on disposition of the financial instruments. The Company has determined that the majority of the inputs used to value its interest rate swaps fall within Level 2 of the fair value hierarchy. The credit valuation adjustments associated with these instruments utilize Level 3 inputs, such as estimates of current credit spreads, to evaluate the likelihood of default by the Company and the respective counterparty. However, as of March 31, 2018, the Company has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions, and has determined that the credit valuation adjustments are not significant to the overall valuation of its interest rate swaps. As a result, the Company determined that its interest rate swaps valuation is classified in Level 2 of the fair value hierarchy.

19


The following tables show the fair value of the Company’s financial assets and liabilities that are required to be measured at fair value on a recurring basis as of March 31, 2018 and December 31, 2017 (amounts in thousands):
 
March 31, 2018
 
Fair Value Hierarchy
 
 
 
Quoted Prices in Active
Markets for Identical
Assets (Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total Fair
Value
Assets:
 
 
 
 
 
 
 
Derivative assets
$

 
$
8,448

 
$

 
$
8,448

Total assets at fair value
$

 
$
8,448

 
$

 
$
8,448

 
December 31, 2017
 
Fair Value Hierarchy
 
 
 
Quoted Prices in Active
Markets for Identical
Assets (Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs (Level 3)
 
Total Fair
Value
Assets:
 
 
 
 
 
 
 
Derivative assets
$

 
$
3,934

 
$

 
$
3,934

Total assets at fair value
$

 
$
3,934

 
$

 
$
3,934

Liabilities:
 
 
 
 
 
 
 
Derivative liabilities
$

 
$
22

 
$

 
$
22

Total liabilities at fair value
$

 
$
22

 
$

 
$
22

Note 13—Derivative Instruments and Hedging Activities
Cash Flow Hedges of Interest Rate Risk
The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish these objectives, the Company primarily uses interest rate swaps as part of its interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable rate amounts from a counterparty in exchange for the Company making fixed rate payments over the life of the agreements without exchange of the underlying notional amount.
The effective portion of changes in the fair value of derivatives designated, and that qualify, as cash flow hedges is recorded in accumulated other comprehensive income in the accompanying condensed consolidated statement of stockholders' equity and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings.
During the three months ended March 31, 2018 and 2017, the Company's derivative instruments were used to hedge the variable cash flows associated with variable rate debt. The ineffective portion of changes in fair value of the derivatives are recognized directly in earnings. During the three months ended March 31, 2018 and 2017, the Company recognized a loss of $39,000 and $8,000, respectively, due to ineffectiveness of its hedges of interest rate risk, which was recorded in interest expense, net in the accompanying condensed consolidated statements of comprehensive income.
Amounts reported in accumulated other comprehensive income related to the derivative will be reclassified to interest expense, net as interest payments are made on the Company’s variable rate debt. During the next twelve months, the Company estimates that an additional $1,343,000 will be reclassified from accumulated other comprehensive income as a decrease to interest expense, net.
See Note 12—"Fair Value" for a further discussion of the fair value of the Company’s derivative instruments.

20


The following table summarizes the notional amount and fair value of the Company’s derivative instruments (amounts in thousands):
Derivatives
Designated as
Hedging
Instruments
 
Balance
Sheet
Location
 
Effective
Dates
 
Maturity
Dates
 
March 31, 2018
 
December 31, 2017
Outstanding
Notional
Amount
 
Fair Value of
 
Outstanding
Notional
Amount
 
Fair Value of
Asset
 
(Liability)
 
Asset
 
(Liability)
 
Interest rate swaps
 
Other assets, net/Accounts
payable and other
liabilities
 
07/01/2016 to
11/16/2017
 
12/22/2020 to
11/16/2022
 
$
347,636

 
$
8,448

 
$

 
$
347,699

 
$
3,934

 
$
(22
)
The notional amount under the agreements is an indication of the extent of the Company’s involvement in the instruments at the time, but does not represent exposure to credit, interest rate or market risks.
Accounting for changes in the fair value of a derivative instrument depends on the intended use and designation of the derivative instrument. The Company designated the interest rate swaps as cash flow hedges to hedge the variability of the anticipated cash flows on its variable rate secured credit facility and notes payable. The change in fair value of the effective portion of the derivative instruments that are designated as hedges is recorded in other comprehensive income (loss), or OCI, in the accompanying condensed consolidated statements of comprehensive income.
The table below summarizes the amount of income recognized on the interest rate derivatives designated as cash flow hedges for the three months ended March 31, 2018 and 2017 (amounts in thousands):
Derivatives in Cash Flow Hedging Relationships
 
Amount of Gain Recognized
in OCI on Derivative
(Effective Portion)
 
Location of (Loss)
Reclassified From
Accumulated Other
Comprehensive Income to
Net Income
(Effective Portion)
 
Amount of (Loss)
Reclassified From
Accumulated Other
Comprehensive Income to
Net Income
(Effective Portion)
For the Three Months Ended March 31, 2018
 
 
 
 
 
 
Interest rate swaps
 
$
4,446

 
Interest expense, net
 
$
(129
)
Total
 
$
4,446

 
 
 
$
(129
)
For the Three Months Ended March 31, 2017
 
 
 
 
 
 
Interest rate swaps
 
$
413

 
Interest expense, net
 
$
(355
)
Total
 
$
413

 
 
 
$
(355
)
Credit Risk-Related Contingent Features
The Company has agreements with each of its derivative counterparties that contain a provision where if the Company either defaults or is capable of being declared in default on any of its indebtedness, then the Company could also be declared in default on its derivative obligations. The Company records credit risk valuation adjustments on its interest rate swaps based on the respective credit quality of the Company and the counterparty. The Company believes it mitigates its credit risk by entering into agreements with creditworthy counterparties. As of March 31, 2018, there were no derivatives in a net liability position. Therefore, the fair value, including accrued interest but excluding any adjustment for nonperformance risk related to the agreement, was $0. As of March 31, 2018, there were no termination events or events of default related to the interest rate swaps.

21


Tabular Disclosure Offsetting Derivatives
The Company has elected not to offset derivative positions in its condensed consolidated financial statements. The following tables present the effect on the Company’s financial position had the Company made the election to offset its derivative positions as of March 31, 2018 and December 31, 2017 (amounts in thousands):
Offsetting of Derivative Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gross Amounts Not Offset in the Balance Sheet
 
 
 
 
Gross
Amounts of
Recognized
Assets
 
Gross Amounts
Offset in the
Balance Sheet
 
Net Amounts of
Assets Presented in
the Balance Sheet
 
Financial Instruments
Collateral
 
Cash Collateral
 
Net
Amount
March 31, 2018
 
$
8,448

 
$

 
$
8,448

 
$

 
$

 
$
8,448

December 31, 2017
 
$
3,934

 
$

 
$
3,934

 
$

 
$

 
$
3,934

Offsetting of Derivative Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gross Amounts Not Offset in the Balance Sheet
 
 
 
 
Gross
Amounts of
Recognized
Liabilities
 
Gross Amounts
Offset in the
Balance Sheet
 
Net Amounts of
Liabilities
Presented in the
Balance Sheet
 
Financial Instruments
Collateral
 
Cash Collateral
 
Net
Amount
December 31, 2017
 
$
22

 
$

 
$
22

 
$

 
$

 
$
22

The Company reports derivatives in the accompanying condensed consolidated balance sheets as other assets, net and accounts payable and other liabilities.
Note 14—Accumulated Other Comprehensive Income
The following table presents a rollforward of amounts recognized in accumulated other comprehensive income by component for the three months ended March 31, 2018 (amounts in thousands):
 
 
Unrealized Income on Derivative
Instruments
 
Accumulated Other
Comprehensive Income
Balance as of December 31, 2017
 
$
3,710

 
$
3,710

Other comprehensive income before reclassification
 
4,446

 
4,446

Amount of loss reclassified from accumulated other comprehensive income to net income (effective portion)
 
129

 
129

Other comprehensive income
 
4,575

 
4,575

Balance as of March 31, 2018
 
$
8,285

 
$
8,285

The following table presents reclassifications out of accumulated other comprehensive income for the three months ended March 31, 2018 and 2017 (amounts in thousands):
Details about Accumulated Other
Comprehensive Income Components
 
Amounts Reclassified from
Accumulated Other Comprehensive Income to Net
Income
 
Affected Line Items in the Condensed Consolidated Statements of Comprehensive Income
 
 
Three Months Ended
March 31,
 
 
 
 
2018
 
2017
 
 
Interest rate swap contracts
 
$
129

 
$
355

 
Interest expense, net
Note 15—Commitments and Contingencies
Litigation
In the ordinary course of business, the Company may become subject to litigation or claims. As of March 31, 2018, there were, and currently there are, no material pending legal proceedings to which the Company is a party.

22


Note 16—Economic Dependency
The Company is dependent on the Advisor and its affiliates for certain services that are essential to the Company, including the sale of the Company’s shares of common and preferred stock available for issuance; the identification, evaluation, negotiation, purchase and disposition of real estate investments and other investments; the management of the daily operations of the Company’s real estate portfolio; and other general and administrative responsibilities. In the event that the Advisor and its affiliates are unable to provide the respective services, the Company will be required to obtain such services from other sources.
Note 17—Subsequent Events
Distributions Paid to Stockholders
On April 2, 2018, the Company paid aggregate distributions of approximately $4,553,000 to Class A stockholders ($2,345,000 in cash and $2,208,000 in shares of the Company’s Class A common stock pursuant to the DRIP), which related to distributions declared for each day in the period from March 1, 2018 through March 31, 2018. On May 1, 2018, the Company paid aggregate distributions of approximately $4,420,000 to Class A stockholders ($2,269,000 in cash and $2,151,000 in shares of the Company’s Class A common stock pursuant to the DRIP), which related to distributions declared for each day in the period from April 1, 2018 through April 30, 2018.
On April 2, 2018, the Company paid aggregate distributions of approximately $449,000 to Class I stockholders ($249,000 in cash and $200,000 in shares of the Company’s Class I common stock pursuant to the DRIP), which related to distributions declared for each day in the period from March 1, 2018 through March 31, 2018. On May 1, 2018, the Company paid aggregate distributions of approximately $459,000 to Class I stockholders ($253,000 in cash and $206,000 in shares of the Company’s Class I common stock pursuant to the DRIP), which related to distributions declared for each day in the period from April 1, 2018 through April 30, 2018.
On April 2, 2018, the Company paid aggregate distributions of approximately $1,758,000 to Class T stockholders ($744,000 in cash and $1,014,000 in shares of the Company's Class T common stock pursuant to the DRIP), which related to distributions declared for each day in the period from March 1, 2018 through March 31, 2018. On May 1, 2018, the Company paid aggregate distributions of approximately $1,711,000 to Class T stockholders ($722,000 in cash and $989,000 in shares of the Company's Class T common stock pursuant to the DRIP), which related to distributions declared for each day in the period from April 1, 2018 through April 30, 2018.
On May 1, 2018, the Company paid aggregate distributions of approximately $15,000 to Class T2 stockholders ($5,000 in cash and $10,000 in shares of the Company's Class T2 common stock pursuant to the DRIP), which related to distributions declared for each day in the period from April 1, 2018 through April 30, 2018.
Amended and Restated Credit Agreement
On April 27, 2018, the Operating Partnership and certain of the Company’s subsidiaries entered into the Third Amended and Restated Credit Agreement dated as of April 27, 2018 (the "A&R Credit Agreement") to add seven new lenders and to increase the maximum commitments available under the secured credit facility from $425,000,000 to an aggregate of up to $700,000,000, consisting of a $450,000,000 revolving line of credit, with a maturity date of April 27, 2022, subject to the Operating Partnership's right for one, 12-month extension period, and a $250,000,000 term loan, with a maturity date of April 27, 2023. Subject to certain conditions, the secured credit facility can be increased to $1,000,000,000.
In connection with the A&R Credit Agreement, the annual interest rate payable under the secured credit facility was decreased to, at the Operating Partnership's option, either (a) the London Interbank Offered Rate, plus an applicable margin ranging from 1.75% to 2.25%, which is determined based on the overall leverage of the Operating Partnership; or (b) a base rate, which means, for any day, a fluctuating rate per annum equal to the prime rate for such day, plus an applicable margin ranging from 0.75% to 1.25%, which is determined based on the overall leverage of the Operating Partnership. Additionally, the requirement to pay a fee on the unused portion of the lenders’ commitments under the secured credit facility, or the Unused Fee, is 0.25% per annum if the average daily amount outstanding under the secured credit facility is less than 50% of the lenders’ commitments, and 0.15% per annum if the average daily amount outstanding under the secured credit facility is greater than 50% of the lenders’ commitments. The Unused Fee is payable quarterly in arrears.
Distributions Authorized
Class A Shares
On May 3, 2018, the board of directors of the Company approved and authorized a daily distribution to the Company’s Class A stockholders of record as of the close of business on each day of the period commencing on June 1, 2018 and ending on August 31, 2018. The distribution will be calculated based on 365 days in the calendar year and will be equal to $0.001788493

23


per share of Class A common stock, which will be equal to an annualized distribution rate of 6.40%, assuming a purchase price of $10.200 per share of Class A common stock. The distributions declared for each record date in June 2018, July 2018 and August 2018 will be paid in July 2018, August 2018 and September 2018, respectively. The distributions will be payable to stockholders from legally available funds therefor.
Class I Shares
On May 3, 2018, the board of directors of the Company approved and authorized a daily distribution to the Company’s Class I stockholders of record as of the close of business on each day of the period commencing on June 1, 2018 and ending on August 31, 2018. The distribution will be calculated based on 365 days in the calendar year and will be equal to $0.001788493 per share of Class I common stock, which will be equal to an annualized distribution rate of 7.04%, assuming a purchase price of $9.273 per share. The distributions declared for each record date in June 2018, July 2018 and August 2018 will be paid in July 2018, August 2018 and September 2018, respectively. The distributions will be payable to stockholders from legally available funds therefor.
Class T Shares
On May 3, 2018, the board of directors of the Company approved and authorized a daily distribution to the Company’s Class T stockholders of record as of the close of business on each day of the period commencing on June 1, 2018 and ending on August 31, 2018. The distribution will be calculated based on 365 days in the calendar year and will be equal to $0.001519750 per share of Class T common stock, which will be equal to an annualized distribution rate of 5.68%, assuming a purchase price of $9.766 per share. The distributions declared for each record date in June 2018, July 2018 and August 2018 will be paid in July 2018, August 2018 and September 2018, respectively. The distributions will be payable to stockholders from legally available funds therefor.
Class T2 Shares
On May 3, 2018, the board of directors of the Company approved and authorized a daily distribution to the Company’s Class T2 stockholders of record as of the close of business on each day of the period commencing on June 1, 2018 and ending on August 31, 2018. The distribution will be calculated based on 365 days in the calendar year and will be equal to $0.001522356 per share of Class T2 common stock, which will be equal to an annualized distribution rate of 5.72%, assuming a purchase price of $9.714 per share. The distributions declared for each record date in June 2018, July 2018 and August 2018 will be paid in July 2018, August 2018 and September 2018, respectively. The distributions will be payable to stockholders from legally available funds therefor.
Renewal of the Management Agreement
On May 3, 2018, the board of directors, including all independent directors of the Company, after review of the Property Manager’s performance during the last year, authorized the Company to execute a mutual consent to renew the management agreement by and among the Company, the Operating Partnership and the Property Manager, dated May 19, 2014, as amended and renewed. The renewal will be for a one-year term and will be effective as of May 19, 2018.
Renewal of the Advisory Agreement
On May 3, 2018, the board of directors, including all independent directors of the Company, after review of the Advisor’s performance during the last year, authorized the Company to execute a mutual consent to renew the amended and restated advisory agreement, by and among the Company, the Operating Partnership and the Advisor, dated June 10, 2014, as amended and renewed. The renewal will be for a one-year term and will be effective as of June 10, 2018.
Status of the Offering
As of May 4, 2018, the Company had accepted investors’ subscriptions for and issued approximately 86,019,000 shares of Class A common stock, 9,018,000 shares of Class I common stock, 37,868,000 shares of Class T common stock and 713,000 shares of Class T2 common stock in the Offerings, resulting in receipt of gross proceeds of approximately $851,541,000, $82,505,000, $363,904,000 and $6,914,000, respectively. As of May 4, 2018, the Company had approximately $938,775,000 in Class A shares, Class I shares and Class T2 shares of common stock remaining in the Offering and approximately $80,094,000 in Class A shares, Class I shares, Class T shares and Class T2 shares of common stock remaining in the DRIP Offering.

24


Acquisitions
The following table summarizes the property acquired subsequent to March 31, 2018 and through May 10, 2018:
Property
 
Date Acquired
 
Purchase Price (2)
 
Ownership
Carrollton Healthcare Facility (1)
 
04/27/2018
 
$8,469,388
 
100%
(1)
The property is leased to two tenants.
(2)
The property acquisition was funded using the Company's Offerings.

25


Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and the notes thereto and the other unaudited financial information appearing elsewhere in this Quarterly Report on Form 10-Q. The following discussion should also be read in conjunction with our audited consolidated financial statements, and the notes thereto, and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2017, as filed with the Securities and Exchange Commission, or the SEC, on March 21, 2018, or the 2017 Annual Report on Form 10-K.
The terms “we,” “our,” and the “Company” refer to Carter Validus Mission Critical REIT II, Inc., Carter Validus Operating Partnership II, LP, or our Operating Partnership, and all wholly-owned subsidiaries.
Forward-Looking Statements
Certain statements contained in this Quarterly Report on Form 10-Q, other than historical facts, include forward-looking statements that reflect our expectations and projections about our future results, performance, prospects and opportunities. Such statements include, in particular, statements about our plans, strategies, and prospects and are subject to certain risks and uncertainties, as well as known and unknown risks, which could cause actual results to differ materially from those projected or anticipated. Therefore, such statements are not intended to be a guarantee of our performance in future periods. Such forward-looking statements can generally be identified by our use of forward-looking terminology such as “may,” “will,” “would,” “could,” “should,” “expect,” “intend,” “anticipate,” “estimate,” “believe,” “continue,” or other similar words. Forward-looking statements that were true at the time made may ultimately prove to be incorrect or false. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect our management’s view only as of the date this Quarterly Report on Form 10-Q is filed with the SEC. We make no representation or warranty (express or implied) about the accuracy of any such forward-looking statements contained in this Quarterly Report on Form 10-Q, and we do not undertake to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. See Item 1A. “Risk Factors” of our 2017 Annual Report on Form 10-K for a discussion of some, although not all, of the risks and uncertainties that could cause actual results to differ materially from those presented in our forward-looking statements.
Management’s discussion and analysis of financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States, or GAAP. The preparation of these financial statements requires our management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On a regular basis, we evaluate these estimates. These estimates are based on management’s historical industry experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.
Overview
We were formed on January 11, 2013 under the laws of Maryland to acquire and operate a diversified portfolio of income-producing commercial real estate with a focus on data centers and healthcare properties, preferably with long-term net leases to creditworthy tenants, as well as to make real estate-related investments that relate to such property types.
We commenced our initial public offering of $2,350,000,000 of shares of our common stock, or our Initial Offering, consisting of $2,250,000,000 of shares in our primary offering and up to $100,000,000 of shares pursuant to our distribution reinvestment plan, or DRIP, on May 29, 2014. We ceased offering shares of common stock pursuant to our Initial Offering on November 24, 2017. At the completion of our Initial Offering, we had accepted investors subscriptions for and issued approximately 125,095,000 shares of Class A, Class I and Class T common stock, including shares of common stock issued pursuant to our DRIP resulting in gross proceeds of $1,223,803,000, before selling commissions and dealer manager fees of approximately $91,503,000.
On November 27, 2017, our follow-on offering, or our Offering, of up to $1,000,000,000 in shares of Class A common stock, Class I common stock, and Class T common stock pursuant to a registration statement on Form S-11, or the Follow-On Registration Statement, was declared effective by the SEC.
On September 28, 2017, our board of directors, at the recommendation of the audit committee, which is comprised solely of independent directors, unanimously approved and established an estimated per share net asset value, or Estimated Per Share NAV, of $9.18 as of June 30, 2017, of each of our Class A common stock, Class I common stock and Class T common stock for purposes of assisting broker-dealers participating in the Initial Offering and the Offering in meeting their customer account statement reporting obligations under the National Association of Securities Dealers Conduct Rule 2340. As a result of our board of directors' determination of the Estimated Per Share NAV, our board of directors approved the revised primary offering prices of $10.200 per Class A share, $9.273 per Class I share, and $9.766 per Class T share, effective October 1, 2017. Further,

26


our board of directors approved $9.18 as the per share purchase price of Class A shares, Class I shares and Class T shares pursuant to the DRIP, effective October 1, 2017. The Estimated Per Share NAV is not subject to audit by our independent registered public accounting firm. We intend to publish an updated estimated NAV per share on at least an annual basis.
On October 13, 2017, we registered 10,893,246 shares of common stock under the DRIP pursuant to a registration statement on Form S-3, or the DRIP Registration Statement, for a price per share of $9.18 per Class A share, Class I share and Class T share for a proposed maximum offering price of $100,000,000 in shares of common stock, or the DRIP Offering. The DRIP Registration Statement was automatically effective with the SEC upon filing and we commenced offering shares of common stock pursuant to the DRIP Registration Statement on December 1, 2017. On December 6, 2017, we filed a post-effective amendment to our DRIP Registration Statement to register shares of Class T2 common stock at $9.18 per share.
On June 2, 2017, we filed Articles Supplementary to the Second Articles of Amendment and Restatement with the State Department of Assessments and Taxation of Maryland reclassifying a portion of our Class A common stock, Class I common stock and Class T common stock as Class T2 common stock. On December 6, 2017, we filed Post-Effective Amendment No. 1 to our Registration Statement on Form S-11 to register Class T2 shares of common stock, which was declared effective by the SEC on February 20, 2018.
We ceased offering shares of Class T common stock in our Offering on March 14, 2018. As of March 15, 2018, we are offering, in any combination with a dollar value up to the maximum offering amount, shares of Class A common stock at a price of $10.200 per share, shares of Class I common stock at a price of $9.273 per share, and shares of Class T2 common stock at a price of $9.714 per share. The offering prices are based on the Estimated Per Share NAV of $9.18 of each of our Class A common stock, Class I common stock and Class T common stock, and any applicable per share upfront selling commissions and dealer manager fees. We refer to the "Offering", "Initial Offering" and "DRIP Offering" collectively as the "Offerings".
Substantially all of our operations are conducted through our Operating Partnership. We are externally advised by our Advisor, which is our affiliate, pursuant to an advisory agreement between us and our Advisor. Our Advisor supervises and manages our day-to-day operations and selects the properties and real estate-related investments we acquire, subject to the oversight and approval of our board of directors. Our Advisor also provides marketing, sales and client services related to real estate on our behalf. Our Advisor engages affiliated entities to provide various services to us. Our Advisor is managed by, and is a subsidiary of, our sponsor, Carter Validus REIT Management Company II, LLC, or our Sponsor. We have no paid employees and we rely on our Advisor to provide substantially all of our services.
Carter Validus Real Estate Management Services II, LLC, or our Property Manager, a wholly-owned subsidiary of our Sponsor, serves as our property manager. Our Advisor and our Property Manager received, and will continue to receive, fees during the acquisition and operational stages and our Advisor may be eligible to receive fees during the liquidation stage of the Company. SC Distributors, LLC, an affiliate of the Advisor, or the Dealer Manager, serves as the dealer manager of the Offerings. The Dealer Manager has received, and will continue to receive, fees for services related to our Initial Offering and the Offering.
Effective April 10, 2018, John E. Carter resigned as Chief Executive Officer of the Company. Mr. Carter remains with the Company as the Chairman of the board of directors, or the Board. In connection with the resignation of Mr. Carter as Chief Executive Officer, the Board appointed Michael A. Seton to serve as Chief Executive Officer of the Company, effective April 10, 2018. Mr. Seton continues to serve as President of the Company.
We currently operate through two reportable segments – commercial real estate investments in data centers and healthcare. As of March 31, 2018, we had purchased 54 real estate investments, consisting of 72 properties, comprising approximately 5,323,000 of rental square feet for an aggregate purchase price of approximately $1,663,142,000.
Critical Accounting Policies
Our critical accounting policies were disclosed in our 2017 Annual Report on Form 10-K. There have been no material changes to our critical accounting policies as disclosed therein.
Interim Unaudited Financial Data
Our accompanying condensed consolidated financial statements have been prepared by us in accordance with GAAP in conjunction with the rules and regulations of the SEC. Certain information and footnote disclosures required for annual financial statements have been condensed or excluded pursuant to SEC rules and regulations. Accordingly, our accompanying condensed consolidated financial statements do not include all of the information and footnotes required by GAAP for complete financial statements. Our accompanying condensed consolidated financial statements reflect all adjustments, which are, in our view, of a normal recurring nature and necessary for a fair presentation of our financial position, results of operations and cash flows for the interim period. Interim results of operations are not necessarily indicative of the results to be expected for the full year; such full year results may be less favorable. Our accompanying condensed consolidated financial statements

27


should be read in conjunction with the audited consolidated financial statements and the notes thereto included in our 2017 Annual Report on Form 10-K.
Qualification as a REIT
We elected, and qualify,to be taxed as a REIT for federal income tax purposes and we intend to continue to be taxed as a REIT. To maintain our qualification as a REIT, we must continue to meet certain organizational and operational requirements, including a requirement to currently distribute at least 90.0% of our REIT taxable income to our stockholders. As a REIT, we generally will not be subject to federal income tax on taxable income that we distribute to our stockholders. If we fail to maintain our qualification as a REIT in any taxable year, we would then be subject to federal income taxes on our taxable income at regular corporate rates and would not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year during which qualification is lost unless the Internal Revenue Service grants us relief under certain statutory provisions. Such an event could have a material adverse effect on our net income and net cash available for distribution to our stockholders.
Recently Issued Accounting Pronouncements
For a discussion of recently issued accounting pronouncements, see Note 2—“Summary of Significant Accounting Policies—Recently Issued Accounting Pronouncements” to our condensed consolidated financial statements that are a part of this Quarterly Report on Form 10-Q.
Segment Reporting
We report our financial performance based on two reporting segments—commercial real estate investments in data centers and healthcare. See Note 10—"Segment Reporting" to our condensed consolidated financial statements that are part of this Quarterly Report on Form 10-Q for additional information on our two reporting segments.
Factors that May Influence Results of Operations
We are not aware of any material trends or uncertainties, other than national economic conditions affecting real estate generally, that may reasonably be expected to have a material impact, favorable or unfavorable, on revenues or income from the acquisition, management and operation of our properties other than those set forth in our Annual Report on Form 10-K for the year ended December 31, 2017 and in Part II, Item 1A. "Risk Factors" of this Quarterly Report on Form 10-Q.
Results of Operations
Our results of operations are influenced by the timing of acquisitions and the operating performance of our real estate properties. The following table shows the property statistics of our real estate properties as of March 31, 2018 and 2017:
 
March 31,
 
2018
 
2017
Number of commercial operating real estate properties(1)
71

 
55

Leased rentable square feet
5,184,000

 
3,378,000

Weighted average percentage of rentable square feet leased
97.4
%
 
99.6
%
(1)
As of March 31, 2018, we owned 72 real estate properties, one of which was under construction. As of March 31, 2017, we owned 57 real estate properties, two of which were under construction.
The following table summarizes our real estate activity for the three months ended March 31, 2018 and 2017:
 
Three Months Ended March 31,
 
2018
 
2017
Commercial operating real estate properties acquired
2

 
6

Approximate aggregate purchase price of acquired real estate properties
$
52,087,000

 
$
157,690,000

Leased rentable square feet
109,000

 
406,000

The following discussion is based on our condensed consolidated financial statements for the three months March 31, 2018 and 2017.

28


This section describes and compares our results of operations for the three months ended March 31, 2018 and 2017. We generate almost all of our net operating income from property operations. In order to evaluate our overall portfolio, management analyzes the net operating income of same store properties. We define "same store properties" as operating properties that were owned and operated for the entirety of both calendar periods being compared and exclude properties under development.
By evaluating the property net operating income of our same store properties, management is able to monitor the operations of our existing properties for comparable periods to measure the performance of our current portfolio and determine the effects of our new acquisitions on net income.
Three Months Ended March 31, 2018 Compared to Three Months Ended March 31, 2017
Changes in our revenues are summarized in the following table (amounts in thousands):
 
Three Months Ended March 31,
 
 
 
2018
 
2017
 
Change
 
 
 
 
 
 
Same store rental and parking revenue
$
19,428

 
$
19,415

 
$
13

Non-same store rental and parking revenue
16,233

 
248

 
15,985

Same store tenant reimbursement revenue
4,396

 
4,325

 
71

Non-same store tenant reimbursement revenue
1,204

 
15

 
1,189

Other operating income
34

 
19

 
15

Total revenue
$
41,295

 
$
24,022

 
$
17,273

There was an increase in contractual rental revenue resulting from average annual rent escalations of 1.98% at our same store properties, which was offset entirely by straight-line rental revenue.
Non-same store rental and parking revenue, and tenant reimbursement revenue increased due to the acquisition of 21 operating properties and placing in service one development property since January 1, 2017.
Changes in our expenses are summarized in the following table (amounts in thousands):
 
Three Months Ended March 31,
 
 
 
2018
 
2017
 
Change
 
 
 
 
 
 
Same store rental and parking expenses
$
5,021

 
$
4,911

 
$
110

Non-same store rental and parking expenses
3,269

 
15

 
3,254

General and administrative expenses
943

 
925

 
18

Asset management fees
3,099

 
2,006

 
1,093

Depreciation and amortization
13,717

 
7,610

 
6,107

Total expenses
$
26,049

 
$
15,467

 
$
10,582

Non-same store rental and parking expenses, certain of which are subject to reimbursement by our tenants, increased primarily due to the acquisition of 21 operating properties and placing in service one development property since January 1, 2017.
Asset management fees increased due to an increase in our investments.
Depreciation and amortization increased due to an increase in the weighted average depreciable basis of operating real estate investments.

29


Changes in interest expense, net are summarized in the following table (amounts in thousands):
 
Three Months Ended March 31,
 
 
 
2018
 
2017
 
Change
Interest expense, net:
 
 
 
 
 
Interest on notes payable
$
(5,199
)
 
$
(1,861
)
 
$
(3,338
)
Interest on secured credit facility
(2,320
)
 
(1,748
)
 
(572
)
Amortization of deferred financing costs
(756
)
 
(561
)
 
(195
)
Cash deposits interest
59

 
41

 
18

Capitalized interest
474

 
365

 
109

Total interest expense, net
$
(7,742
)
 
$
(3,764
)
 
$
(3,978
)
Interest on notes payable increased due to an increase in the weighted average outstanding principal balance on notes payable to $468.1 million for the three months ended March 31, 2018, as compared to $165.2 million for the three months ended March 31, 2017, coupled with an increase in interest rates for the twelve month-period.
Interest on secured credit facility increased due to an increase in the weighted average outstanding principal balance on the secured credit facility, coupled with an increase in interest rates.
Organization and Offering Costs
We reimburse our Advisor or its affiliates for organization and offering costs it incurs on our behalf, but only to the extent the reimbursement would not cause the selling commissions, dealer manager fees, distribution and servicing fees and other organization and offering costs incurred by us to exceed 15% of gross offering proceeds from the Initial Offering or the Offering, as applicable, as of the date of the reimbursement. Other offering costs associated with the Initial Offering (other than selling commissions, dealer manager fees and distribution and servicing fees) were approximately 2.0% of the gross offering proceeds. We expect that other offering costs associated with the Offering (other than selling commissions, dealer manager fees and distribution and servicing fees) will be approximately 2.0% of the gross offering proceeds. Since inception, our Advisor and its affiliates incurred other organization and offering costs on our behalf of approximately $18,316,000 as of March 31, 2018. As of March 31, 2018, we reimbursed our Advisor or its affiliates approximately $17,582,000 in other offering costs. In addition, we paid our Advisor or its affiliates $495,000 in other offering costs related to subscription agreements. As of March 31, 2018, we accrued approximately $239,000 of other offering costs to our Advisor and its affiliates. As of March 31, 2018, we incurred approximately $93,587,000 in selling commissions and dealer manager fees and $16,204,000 in distribution and servicing fees to our Dealer Manager. As of March 31, 2018, we incurred other offering costs (other than selling commissions, dealer manager fees and distribution and servicing fees) of approximately $24,389,000.
When incurred, organization costs are expensed and offering costs, including selling commissions, dealer manager fees, distribution and servicing fees and other offering costs are charged to stockholders’ equity. For a further discussion of other organization and offering costs, see Note 9—"Related-Party Transactions and Arrangements" to the condensed consolidated financial statements that are a part of this Quarterly Report on Form 10-Q.
Inflation
We are exposed to inflation risk as income from long-term leases is the primary source of our cash flows from operations. There are provisions in certain of our leases with tenants that are intended to protect us from, and mitigate the risk of, the impact of inflation. These provisions include scheduled increases in contractual base rent receipts, reimbursement billings for operating expenses, pass-through charges and real estate tax and insurance reimbursements. However, due to the long-term nature of our leases, among other factors, the leases may not reset frequently enough to adequately offset the effects of inflation.
Liquidity and Capital Resources
Our principal demands for funds are for acquisitions of real estate and real estate-related investments, to pay operating expenses and interest on our current and future indebtedness and to pay distributions to our stockholders. Our sources of funds are primarily the net proceeds of our Offering, funds equal to amounts reinvested in the DRIP, operating cash flows, the secured credit facility and other borrowings. In addition, we require resources to make certain payments to our Advisor and our Dealer Manager, which, during our Offering, include payments to our Advisor and its affiliates for reimbursement of other organization and offering expenses and other costs incurred on our behalf, and payments to our Dealer Manager and its affiliates for selling commissions, dealer manager fees, distribution and servicing fees, and offering expenses.

30


Generally, cash needs for items other than acquisitions of real estate and real estate-related investments are met from operations, borrowings, and the net proceeds of our Offering. However, there may be a delay between the sale of shares of our common stock and our investments in real estate, which could result in a delay in the benefits to our stockholders, if any, of returns generated from our investment operations.
Our Advisor evaluates potential additional investments and engages in negotiations with real estate sellers, developers, brokers, investment managers, lenders and others on our behalf. Until we invest all of the proceeds of our Offering in properties and real estate-related investments, we may invest in short-term, highly liquid or other authorized investments. Such short-term investments will not earn significant returns, and we cannot predict how long it will take to fully invest the proceeds in properties and real estate-related investments. The number of properties we acquire and other investments we make will depend upon the number of shares sold in our Offering and the resulting amount of net proceeds available for investment.
When we acquire a property, our Advisor prepares a capital plan that contemplates the estimated capital needs of that investment. In addition to operating expenses, capital needs may also include costs of refurbishment, tenant improvements or other major capital expenditures. The capital plan also sets forth the anticipated sources of the necessary capital, which may include a line of credit or other loans established with respect to the investment, operating cash generated by the investment, additional equity investments from us or joint venture partners or, when necessary, capital reserves. Any capital reserves would be established from the net proceeds of our Offering, proceeds from sales of other investments, operating cash generated by other investments or other cash on hand. In some cases, a lender may require us to establish capital reserves for a particular investment. The capital plan for each investment will be adjusted through ongoing, regular reviews of our portfolio or as necessary to respond to unanticipated additional capital needs.
Short-term Liquidity and Capital Resources
On a short-term basis, our principal demands for funds will be for the acquisition of real estate and real estate-related notes and investments and payments of tenant improvements, acquisition related costs, operating expenses, distributions to and repurchases from stockholders, and interest and principal payments on current and future debt financings. We expect to meet our short-term liquidity requirements through net cash flows provided by operations, net proceeds from our Offering, borrowings on the secured credit facility, as well as secured and unsecured borrowings from banks and other lenders to finance our expected future acquisitions.
Long-term Liquidity and Capital Resources
On a long-term basis, our principal demands for funds will be for the acquisition of real estate and real estate-related notes and investments and payments of tenant improvements, acquisition related costs, operating expenses, distributions to and repurchases from stockholders, and interest and principal payments on current and future indebtedness. We expect to meet our long-term liquidity requirements through proceeds from cash flow from operations, borrowings on the secured credit facility, proceeds from secured or unsecured borrowings from banks or other lenders, proceeds from our Offering and funds equal to amounts reinvested in the DRIP.
We expect that substantially all cash flows from operations will be used to pay distributions to our stockholders after certain capital expenditures; however, we have used, and may continue to use other sources to fund distributions, as necessary, such as, proceeds from our Offering, borrowings on the secured credit facility and/or future borrowings on unencumbered assets. To the extent cash flows from operations are lower due to fewer properties being acquired or lower-than-expected returns on the properties held, distributions paid to stockholders may be lower. We expect that substantially all net cash flows from our Offering or debt financings will be used to fund acquisitions, certain capital expenditures identified at acquisition, repayments of outstanding debt or distributions to our stockholders in excess of cash flows from operations.
Capital Expenditures
We will require approximately $11.5 million in expenditures for capital improvements over the next 12 months. We cannot provide assurances, however, that actual expenditures will not exceed these estimated expenditure levels. As of March 31, 2018, we had $7.9 million of restricted cash in escrow reserve accounts for such capital expenditures. In addition, as of March 31, 2018, we had approximately $76.7 million in cash and cash equivalents. For the three months ended March 31, 2018, we incurred capital expenditures of $5.8 million that primarily related to two healthcare real estate investments.
Credit Facility
As of March 31, 2018, the maximum commitments available under the secured credit facility were $425,000,000, consisting of a $325,000,000 revolving line of credit, with a maturity date of December 22, 2018, subject to our Operating Partnership's right to two, 12-month extension periods, and a $100,000,000 term loan, with a maturity date of December 22, 2019, subject to our Operating Partnership's right to one, 12-month extension period.
The proceeds of loans made under the secured credit facility may be used to finance the acquisition of real estate investments, for tenant improvements and leasing commissions with respect to real estate, for repayment of indebtedness, for

31


capital expenditures with respect to real estate and for general corporate and working capital purposes. The secured credit facility can be increased to $550,000,000, subject to certain conditions. See Note 8—"Notes Payable and Secured Credit Facility" to the condensed consolidated financial statements that are part of this Quarterly Report on Form 10-Q.
As of March 31, 2018, we had a total pool availability under the secured credit facility of $427,371,000; however, the maximum commitment thereunder was $425,000,000. As of March 31, 2018, we had an aggregate outstanding principal balance of $250,000,000, and $175,000,000 remained available to be drawn on the secured credit facility.
On April 27, 2018, the Operating Partnership and certain of our subsidiaries entered into an amended and restated credit agreement related to our secured credit facility. See Note 17"Subsequent Events" to the condensed consolidated financial statements that are a part of this Quarterly Report on Form 10-Q.
Cash Flows
Three Months Ended March 31, 2018 Compared to Three Months Ended March 31, 2017
 
Three Months Ended
March 31,
 
 
(in thousands)
2018
 
2017
 
Change
Net cash provided by operating activities
$
19,293

 
$
12,769

 
$
6,524

Net cash (used in) investing activities
$
(57,942
)
 
$
(168,357
)
 
$
110,415

Net cash provided by financing activities
$
42,521

 
$
169,574

 
$
(127,053
)
Operating Activities
Net cash provided by operating activities increased primarily due to the acquisition of our new operating properties, partially offset by increased operating expenses primarily related to real estate acquisitions for the past twelve month-period.
Investing Activities
Net cash used in investing activities decreased primarily due to an decrease in investments in real estate of $104.8 million, a decrease in capital expenditures of $2.4 million and a decrease in real estate deposits, net of $3.2 million.
Financing Activities
Net cash provided by financing activities decreased primarily due to a decrease in proceeds from the secured credit facility of $90.0 million, a decrease in proceeds from the issuance of common stock of $35.9 million, a decrease in proceeds from notes payable of $25.0 million, an increase in repurchases of our common stock of $6.3 million, an increase in distributions to our stockholders of $3.4 million, offset by a decrease in payments on the secured credit facility of $30.0 million, a decrease in the payment of offering costs on our common stock of $3.0 million and a decrease in the payment of deferred financing costs of $0.5 million.
Distributions
The amount of distributions payable to our stockholders is determined by our board of directors and is dependent on a number of factors, including our funds available for distribution, financial condition, capital expenditure requirements and the annual distribution requirements needed to maintain our status as a REIT under the Internal Revenue Code of 1986, as amended. Our board of directors must authorize each distribution and may, in the future, authorize lower amounts of distributions or not authorize additional distributions and, therefore, distribution payments are not guaranteed. Our Advisor may also defer, suspend and/or waive fees and expense reimbursements if we have not generated sufficient cash flow from our operations and other sources to fund distributions. Additionally, our organizational documents permit us to pay distributions from unlimited amounts of any source, and we may use sources other than operating cash flows to fund distributions, including proceeds from our Offerings, which may reduce the amount of capital we ultimately invest in properties or other permitted investments.

32


We have funded distributions with operating cash flows from our properties and proceeds raised in our Offerings. To the extent that we do not have taxable income, distributions paid will be considered a return of capital to stockholders. The following table shows distributions paid during the three months ended March 31, 2018 and 2017 (amounts in thousands):
 
For the Three Months Ended March 31,
 
2018
 
2017
Distributions paid in cash - common stockholders
$
9,333

 
 
 
$
5,977

 
 
Distributions reinvested
9,920

 
 
 
7,001

 
 
Total distributions
$
19,253

 
 
 
$
12,978

 
 
Source of distributions:
 
 
 
 
 
 
 
Cash flows provided by operations (1)
$
9,333

 
48%
 
$
5,977

 
46%
Offering proceeds from issuance of common stock pursuant to the DRIP (1)
9,920

 
52%
 
7,001

 
54%
Total sources
$
19,253

 
100%
 
$
12,978

 
100%
 
(1)
Percentages were calculated by dividing the respective source amount by the total sources of distributions.
Total distributions declared but not paid on Class A shares, Class I shares and Class T shares as of March 31, 2018 were approximately $6.8 million for common stockholders. These distributions were paid on April 2, 2018.
For the three months ended March 31, 2018, we declared and paid distributions of approximately $19.3 million to Class A stockholders, Class I stockholders and Class T stockholders, including shares issued pursuant to the DRIP, as compared to FFO (as defined below) for the three months ended March 31, 2018 of approximately $21.2 million, which covered 100% of our distributions paid during such period. The payment of distributions from sources other than FFO may reduce the amount of proceeds available for investment and operations or cause us to incur additional interest expense as a result of borrowed funds.
For a discussion of distributions paid subsequent to March 31, 2018, see Note 17—"Subsequent Events" to the condensed consolidated financial statements included in this Quarterly Report on Form 10-Q.
Contractual Obligations
As of March 31, 2018, we had approximately $718.1 million of principal debt outstanding, of which $468.1 million related to notes payable and $250.0 million related to the secured credit facility. See Note 8—"Notes Payable and Secured Credit Facility" to the condensed consolidated financial statements that are a part of this Quarterly Report on Form 10-Q for certain terms of the debt outstanding.
Our contractual obligations as of March 31, 2018 were as follows (amounts in thousands):
 
Less than
1 Year
 
1-3 Years
 
3-5 Years
 
More than
5 Years
 
Total
Principal payments—fixed rate debt
$
87

 
$
2,179

 
$
77,695

 
$
140,453

 
$
220,414

Interest payments—fixed rate debt
9,546

 
19,026

 
14,708

 
21,023

 
64,303

Principal payments—variable rate debt fixed through interest rate swap (1)
506

 
105,454

 
241,676

 

 
347,636

Interest payments—variable rate debt fixed through interest rate swap (2)
11,385

 
21,422

 
13,572

 

 
46,379

Principal payments—variable rate debt (3)
150,000

 

 

 

 
150,000

Interest payments—variable rate debt (4)
4,423

 

 

 

 
4,423

Capital expenditures
11,513

 

 

 

 
11,513

Ground lease payments
545

 
1,089

 
1,089

 
5,070

 
7,793

Total
$
188,005

 
$
149,170

 
$
348,740

 
$
166,546

 
$
852,461

 
(1)
As of March 31, 2018, we had $347.6 million outstanding principal on notes payable and borrowings under the secured credit facility that were fixed through the use of interest rate swap agreements.

33


(2)
We used the fixed rates under our interest rate swap agreements as of March 31, 2018 to calculate the debt payment obligations in future periods.
(3)
This relates to the revolving line of credit under the secured credit facility. As of March 31, 2018, the maturity date on the revolving line of credit was December 22, 2018, subject to our right to two 12-month extension periods. On April 27, 2018, we extended the maturity date of the revolving line of credit under the secured credit facility to April 27, 2022, subject to our right to a 12-month extension period. See Note 17—"Subsequent Events" for additional details.
(4)
We used LIBOR plus the applicable margin under our variable rate debt agreement as of March 31, 2018 to calculate the debt payment obligations in future periods.
Off-Balance Sheet Arrangements
As of March 31, 2018, we had no off-balance sheet arrangements.
Related-Party Transactions and Arrangements
We have entered into agreements with our Advisor and its affiliates whereby we agree to pay certain fees to, or reimburse certain expenses of, our Advisor or its affiliates for acquisition fees and expenses, organization and offering expenses, asset and property management fees and reimbursement of operating costs. Refer to Note 9—"Related-Party Transactions and Arrangements" to our condensed consolidated financial statements that are a part of this Quarterly Report on Form 10-Q for a detailed discussion of the various related-party transactions and agreements.
Funds from Operations and Modified Funds from Operations
One of our objectives is to provide cash distributions to our stockholders from cash generated by our operations. The purchase of real estate assets and real estate-related investments, and the corresponding expenses associated with that process, is a key operational feature of our business plan in order to generate cash from operations. Due to certain unique operating characteristics of real estate companies, the National Association of Real Estate Investment Trusts, or NAREIT, an industry trade group, has promulgated a measure known as funds from operations, or FFO, which we believe is an appropriate supplemental measure to reflect the operating performance of a REIT. The use of FFO is recommended by the REIT industry as a supplemental performance measure. FFO is not equivalent to our net income as determined under GAAP.
We define FFO, consistent with NAREIT’s definition, as net income (computed in accordance with GAAP), excluding gains (or losses) from sales of property and asset impairment write-downs, plus depreciation and amortization of real estate assets, and after adjustments for unconsolidated partnerships and joint ventures. Adjustments for unconsolidated partnerships and joint ventures will be calculated to reflect FFO on the same basis.
We, along with others in the real estate industry, consider FFO to be an appropriate supplemental measure of a REIT’s operating performance because it is based on a net income analysis of property portfolio performance that excludes non-cash items such as depreciation and amortization and asset impairment write-downs, which we believe provides a more complete understanding of our performance to investors and to our management, and when compared year over year, reflects the impact on our operations from trends in occupancy.
Historical accounting convention (in accordance with GAAP) for real estate assets requires companies to report their investment in real estate at its carrying value, which consists of capitalizing the cost of acquisitions, development, construction, improvements and significant replacements, less depreciation and amortization and asset impairment write-downs, if any, which is not necessarily equivalent to the fair market value of their investment in real estate assets.
The historical accounting convention requires straight-line depreciation of buildings and improvements, which implies that the value of real estate assets diminishes predictably over time, which could be the case if such assets are not adequately maintained or repaired and renovated as required by relevant circumstances and/or as requested or required by lessees for operational purposes in order to maintain the value disclosed. We believe that, since the fair value of real estate assets historically rises and falls with market conditions including, but not limited to, inflation, interest rates, the business cycle, unemployment and consumer spending, presentations of operating results for a REIT using historical accounting for depreciation could be less informative.
In addition, we believe it is appropriate to disregard asset impairment write-downs as they are a non-cash adjustment to recognize losses on prospective sales of real estate assets. Since losses from sales of real estate assets are excluded from FFO, we believe it is appropriate that asset impairment write-downs in advancement of realization of losses should be excluded. Impairment write-downs are based on negative market fluctuations and underlying assessments of general market conditions, which are independent of our operating performance, including, but not limited to, a significant adverse change in the financial condition of our tenants, changes in supply and demand for similar or competing properties, changes in tax, real estate, environmental and zoning law, which can change over time. When indicators of potential impairment suggest that the carrying

34


value of real estate and related assets may not be recoverable, we assess the recoverability by estimating whether we will recover the carrying value of the asset through undiscounted future cash flows and eventual disposition (including, but not limited to, net rental and lease revenues, net proceeds on the sale of property and any other ancillary cash flows at a property or group level under GAAP). If based on this analysis, we do not believe that we will be able to recover the carrying value of the real estate asset, we will record an impairment write-down to the extent that the carrying value exceeds the estimated fair value of the real estate asset. Testing for indicators of impairment is a continuous process and is analyzed on a quarterly basis. Investors should note, however, that determinations of whether impairment charges have been incurred are based partly on anticipated operating performance, because estimated undiscounted future cash flows from a property, including estimated future net rental and lease revenues, net proceeds on the sale of the property, and certain other ancillary cash flows, are taken into account in determining whether an impairment charge has been incurred. While impairment charges are excluded from the calculation of FFO as described above, investors are cautioned that due to the fact that impairments are based on estimated future undiscounted cash flows and that we intend to have a relatively limited term of our operations, it could be difficult to recover any impairment charges through the eventual sale of the property. No impairment losses have been recorded to date.
In developing estimates of expected future cash flow, we make certain assumptions regarding future market rental income amounts subsequent to the expiration of current lease arrangements, property operating expenses, terminal capitalization and discount rates, the expected number of months it takes to re-lease the property, required tenant improvements and the number of years the property will be held for investment. The use of alternative assumptions in the future cash flow analysis could result in a different determination of the property’s future cash flows and a different conclusion regarding the existence of an asset impairment, the extent of such loss, if any, as well as the carrying value of the real estate asset.
Publicly registered, non-listed REITs, such as us, typically have a significant amount of acquisition activity and are substantially more dynamic during their initial years of investment and operations. While other start up entities may also experience significant acquisition activity during their initial years, we believe that publicly registered, non-listed REITs are unique in that they have a limited life with targeted exit strategies within a relatively limited time frame after the acquisition activity ceases. We will use the proceeds raised in our offering to acquire real estate assets and real estate-related investments, and we intend to begin the process of achieving a liquidity event (i.e., listing of our shares of common stock on a national securities exchange, a merger or sale, the sale of all or substantially all of our assets, or another similar transaction) within five to seven years after the completion of our offering stage, which is generally comparable to other publicly registered, non-listed REITs. Thus, we do not intend to continuously purchase real estate assets and intend to have a limited life. Due to these factors and other unique features of publicly registered, non-listed REITS, the Institute for Portfolio Alternatives (formerly known as the Investment Program Association), or the IPA, an industry trade group, has standardized a measure known as modified funds from operations, or MFFO, which we believe to be another appropriate supplemental measure to reflect the operating performance of a publicly registered, non-listed REIT. MFFO is a metric used by management to evaluate sustainable performance and dividend policy. MFFO is not equivalent to our net income as determined under GAAP.
We define MFFO, a non-GAAP measure, consistent with the IPA’s definition: FFO further adjusted for the following items included in the determination of GAAP net income; acquisition fees and expenses; amounts related to straight-line rental income and amortization of above and below market intangible lease assets and liabilities; accretion of discounts and amortization of premiums on debt investments; mark-to-market adjustments included in net income; nonrecurring gains or losses included in net income from the extinguishment or sale of debt, hedges, foreign exchange, derivatives or securities holdings where trading of such holdings is not a fundamental attribute of the business plan, unrealized gains or losses resulting from consolidation from, or deconsolidation to, equity accounting, adjustments related to contingent purchase price obligations where such adjustments have been included in the derivation of GAAP net income, and after adjustments for a consolidated and unconsolidated partnership and joint ventures, with such adjustments calculated to reflect MFFO on the same basis. Our MFFO calculation complies with the IPA’s Practice Guideline, described above. In calculating MFFO, we exclude amortization of above and below-market leases, amounts related to straight-line rents (which are adjusted in order to reflect such payments from a GAAP accrual basis to closer to an expected to be received cash basis of disclosing the rent and lease payment) and ineffectiveness of interest rate swaps. The other adjustments included in the IPA’s guidelines are not applicable to us.
Since MFFO excludes acquisition fees and expenses, it should not be construed as a historic performance measure. Acquisition fees and expenses are paid in cash by us, and we have not set aside or put into escrow any specific amount of proceeds from our offerings to be used to fund acquisition fees and expenses. Acquisition fees and expenses include payments to our Advisor or its affiliates and third parties. Such fees and expenses will not be reimbursed by our Advisor or its affiliates and third parties, and therefore if there are no further proceeds from the sale of shares of our common stock to fund future acquisition fees and expenses, such fees and expenses will need to be paid from either additional debt, operational earnings or cash flows, net proceeds from the sale of properties, or from ancillary cash flows. As a result, the amount of proceeds available for investment and operations would be reduced, or we may incur additional interest expense as a result of borrowed funds. Nevertheless, our Advisor or its affiliates will not accrue any claim on our assets if acquisition fees and expenses are not paid from the proceeds of our offerings. Under GAAP, acquisition fees and expenses related to the acquisition of properties determined to be business combinations are expensed as incurred, including investment transactions that are no longer under

35


consideration, and are included in acquisition related expenses in the accompanying condensed consolidated statements of comprehensive income and acquisition fees and expenses associated with transactions determined to be an asset acquisition are capitalized.
All paid and accrued acquisition fees and expenses have negative effects on returns to investors, the potential for future distributions, and cash flows generated by us, unless earnings from operations or net sales proceeds from the disposition of other properties are generated to cover the purchase price of the real estate asset, these fees and expenses and other costs related to such property. In addition, MFFO may not be an indicator of our operating performance, especially during periods in which properties are being acquired.
In addition, certain contemplated non-cash fair value and other non-cash adjustments are considered operating non-cash adjustments to net income in determining cash flows from operations in accordance with GAAP.
We use MFFO and the adjustments used to calculate it in order to evaluate our performance against other publicly registered, non-listed REITs, which intend to have limited lives with short and defined acquisition periods and targeted exit strategies shortly thereafter. As noted above, MFFO may not be a useful measure of the impact of long-term operating performance if we do not continue to operate in this manner. We believe that our use of MFFO and the adjustments used to calculate it allow us to present our performance in a manner that reflects certain characteristics that are unique to publicly registered, non-listed REITs, such as their limited life, limited and defined acquisition period and targeted exit strategy, and hence the use of such measures may be useful to investors. For example, acquisition fees and expenses are intended to be funded from the proceeds of our offering and other financing sources and not from operations. By excluding acquisition fees and expenses, the use of MFFO provides information consistent with management’s analysis of the operating performance of its real estate assets. Additionally, fair value adjustments, which are based on the impact of current market fluctuations and underlying assessments of general market conditions, but can also result from operational factors such as rental and occupancy rates, may not be directly related or attributable to our current operating performance. By excluding such charges that may reflect anticipated and unrealized gains or losses, we believe MFFO provides useful supplemental information.
Presentation of this information is intended to assist management and investors in comparing the operating performance of different REITs, although it should be noted that not all REITs calculate FFO and MFFO the same way, so comparisons with other REITs may not be meaningful. Furthermore, FFO and MFFO are not necessarily indicative of cash flow available to fund cash needs and should not be considered as an alternative to net income as an indication of our performance, as an indication of our liquidity, or indicative of funds available for our cash needs, including our ability to make distributions to our stockholders. FFO and MFFO should be reviewed in conjunction with other measurements as an indication of our performance. MFFO has limitations as a performance measure. However, it may be useful in assisting management and investors in assessing the sustainability of operating performance in future operating periods, and in particular, after the offering and acquisition stages are complete and net asset value is disclosed. MFFO is not a useful measure in evaluating net asset value since impairment write-downs are taken into account in determining net asset value but not in determining MFFO.
FFO and MFFO, as described above, should not be construed to be more relevant or accurate than the current GAAP methodology in calculating net income or in its applicability in evaluating our operational performance. The method used to evaluate the value and performance of real estate under GAAP should be construed as a more relevant measure of operating performance and considered more prominently than the non-GAAP FFO and MFFO measures and the adjustments to GAAP in calculating FFO and MFFO. MFFO has not been scrutinized to the level of other similar non-GAAP performance measures by the SEC or any other regulatory body.

36


The following is a reconciliation of net income attributable to common stockholders, which is the most directly comparable GAAP financial measure, to FFO and MFFO for the three months ended March 31, 2018 and 2017 (amounts in thousands, except share data and per share amounts):
 
For the Three Months Ended
March 31,
 
2018
 
2017
Net income attributable to common stockholders
$
7,504

 
$
4,791

Adjustments: